This review was written by Eugene Kernes
“Independence should be strengthened. Responsibility for policy outcomes should not be avoided in discussions of independence. An independent central bank can cause unemployment or inflation. The public generally blames the administration and Congress for these outcomes. They may lose office. Federal Reserve officials may be criticized, but they retain their positions. Following the two major errors of the twentieth century, the Great Depression and the Great Inflation, no Federal Reserve officials had to resign.” – Allan H. Meltzer, Chapter 1: Introduction, Page 22
“March 1951 Accord with the Treasury changed the Federal Reserve’s formal status from subservient to co-equal partner with the Treasury. The Treasury remained responsible for debt management; the Federal Reserve gradually regained authority to change market interest rates, reserves, and money.” – Allan H. Meltzer, Chapter 2: A New Beginning, 1951-60 , Page 250
“The main factors driving professionalization were the increased demands that governments and the public placed on economic policy, the growing sophistication of financial services and economic analysis, the widespread use of these services, and the frequent crises in the international monetary system. No to be overlooked was the presence of a new generation of economists who had developed Keynesian economics and were eager to use their tools to improve the country’s economic performance.” – Allan H. Meltzer, Chapter 3: The Early Keynesian Era: A Low-Inflation Interlude, 1961-65 , Page 280-281
The Federal Reserve took responsibility for economic stabilization and fiscal policy. In addition to the normal duties of the Federal Reserve, the Federal Reserve was tasked with managing the unemployment rate. This arose because citizens were demanding maintenance of economic prosperity. Greater interest in Federal Reserve operations by Congress, challenged the Federal Reserve’s independence.
This was a Keynesian Era, for many of the economists developed Keynesian methodology, and wanted to try out their tools. Keynesian economists became prominent within politics. Keynesianism took a proactive approach to the economy, by using discretionary resources for smoothing business cycles. The Federal Reserve did improve its ability to resolve crises, but at a cost of incentivizing further bailouts. There was also a high rate of inflation. The Federal Reserve was limited in its ability to manage inflation because of other regulations.
Responsibility, and Accountability:
Historically there was a need to separate the power to spend, and the power to finance spending by expanding money. Rules such as the gold standard rule, and balanced budge rule enforced the separation between fiscal and monetary policy. Both rules lost prominence by 1951.
The Federal Reserve regained authority to manage interest rate, reserves, and money during 1951. Making the Federal Reserve co-equal partners with the Treasury, rather than subservient to the Treasury.
William McChesney Martin ended the struggle of power between Washington and New York, with Washington in charge. Greater cohesion of the System also made the System susceptible to political pressure.
Although Congress could be punished for Federal Reserve action via voting, the Federal Reserve maintained a separation between responsibility and authority. Even after having major economic failures, no Federal Reserve officials was asked to resign. A way to align responsibility and authority is by coordinating a transient policy objective between Federal Reserve Chairman and the Secretary of the Treasury. Not meeting the objective would require an explanation, or a resignation if the explanation was not accepted.
Policy followed by the United States was Too Big To Fail, where size of financial firms excused them from failure and obtained bailouts. The author claims that size should not prevent a failure. The institution can remain, but with different management and a loss to the stockholders.
Many banks resisted joining the System to avoid par collection, and costly reserve requirements. Even without membership, all banks had to par collect and adhere to Federal Reserve’s reserve requirements by Congress.
Under the Employment Act, the Federal Reserve was tasked with reducing the unemployment rate. The emphasis on employment came from congressional interest in Federal Reserve operations and decisions. Which also included more frequent congressional hearings. Policy coordination sometimes challenged the Federal reserve independence.
Federal Reserve members questioned the rate that banks should repay their debts. Wanted to apply pressure for repayment, but without causing other banks to borrow.
Economic Ideas, and Economists:
Economists gained more political power during the 1960s. Demand for their services was due to frequent international monetary crises, and public policy. Services that improved due to professionalization of monetary policy.
There was conflict within economic perspectives. A battle of ideas between Monetarists and Keynesians. Monetarists claimed that monetary authority determined the stock of money but public demand determined the price level. Wanting to follow rules of policy, rather than discretionary policy. Discretionary policy created uncertainty in planning for future actions. Keynesians thought that discretionary policy can stabilize an inherently unstable economy by adjusting expenditures, tax rates, and interest rates. The monetarists thought that the private sector is self-stabilizing and that government policy usually made outcomes worse.
This is not an introductory book on monetary policy. To understand much of the history presented, would require the reader to have a background in monetary policy. Supplementary research might be needed to understand the context of the disagreements of monetary policy ideas.