Bankers vs Politicians

Philadelphia Federal Reserve Bank president Charles I. Plosser has questioned parts of the Democrats' bank reform bill in a letter to the region's Senate and House delegations. He complains the bill would take away too many of the powers of the banker-oriented Fed, and give them to political appointees, who are supposed to represent the people, but whom Plosser fears make dangerous short-term decisions. Highlights:

"We must have a way that credibly convinces large financial firms, and the markets, that firms on the verge of failure will, in fact, be allowed to fail... The best approach" is by taking them through bankruptcy, like other companies, Plosser argues.

Instead, he complains, the bill proposed by US Sen. Chris Dodd, D-Conn., gives the Federal Deposit Insurance Corp.more power to reorganize troubled banks. Plosser worries this would give too much "discretion to policymakers to avoid the discipline of a bankruptcy court... A modified bankruptcy process would eliminate discretion and strengthen market discipline, by permitting creditors... to place the firm into bankruptcy" when it can't pay what it owes.

"The Senate bill's proposal to restrict the Federal Reserve's supervisory authority to about 35 of the largest financial firms with $50 billion or more in assets" reinforces the dangerous idea that some banks are "Too Big To Fail" (TBTF), Plosser adds. "Restricting the Federal Reserve's supervisory authority to these large firms would focus the Federal Reserve's attention more toward Wall Street and less on Main Street," which "would dramatically reduce the Federal Reserve's abilities to monitor the economy and financial market developments, to act as an effective lender of last resort, and to identify risks to the financial system...

"The bill contains provisions that seek to politicize the governance of the Federal Reserve, including making the New York Fed president a political appointee with a five-year term... Fed Governors are appointed by the President and confirmed by the Senate, but serve 14-year terms to encourage a long-term perspective and shelter them from partisan politics...This lessens the temptation for the fiscal authority to use the printing press to fund its public spending... This is not a partisan issue. Political influence over monetary policy is dangerous no matter which party is in control...

"The Federal Reserve should and will change... I have also called for the following reforms:
    "Eliminate or curtail the Fed's... lending authority, which allows lending to corporations, individuals, and partnerships." Treasury, not the Fed, should handle emergency loans. 
    "Enhance market discipline by requiring financial firms to hold contingent capital in the form of convertible debt that could be converted into equity in periods of financial stress....
    "Support greater transparency by requiring the Fed to deliver a semi-annual Financial Stability Report to Congress... similar to the Fed's requirement to submit its Monetary Policy Report...
    "Have the Federal Reserve conduct monetary policy using a portfolio that contains only Treasury securities," not Fannie Mae or other securities, "which would... uphold the Fed's independence, and assign fiscal decisions to the Congress where they belong....
 
"Here in Philadelphia, just blocks from the Philadelphia Fed, you can find the vestiges of the First and Second Banks of the United States, two earlier attempts at a central bank, which both failed because they became embroiled in politics."