Originally posted on Thursday, April 18th, 2013
“[T]he Fed exists in a twilight zone of political accountability … because its role is to make choices that others deem necessary but don’t wish to make publicly.”
The independence of the Federal Reserve is an important axiom. In practice it is far more nuanced than the axiom reveals. The true politics of the Fed brilliantly is captured by journalist Steven Solomon in his The Confidence Game: How Unelected Central Bankers Are Governing the Changed World Economy (Simon & Schuster, 1995, pp. 153-4):
Although they strained to portray themselves as nonthreatening, nonpartisan technician-managers of the status quo, central bankers, like proverbial Supreme Court justices reading election returns, used their acute political antennae to intuit how far they could lean against the popular democratic winds. “Chairmen of the Federal Reserve,” observes ex-Citibank Chairman Walter Wriston, “have traditionally been the best politicians in Washington. The Fed serves a wonderful function. They get beat up on by the Congress and the administration. Everyone knows the game and everyone plays it. But no one wants their responsibility.”
Democratic leaders tolerated central bankers’ special unspoken role because they welcomed the depoliticization of money questions. Why? First, simply, money was too powerful a political tool ever to entrust entirely to the opposition party. However tempting it was to an ascendant Democratic political party to manipulate money for electoral interests, that temptation was partly counterbalanced by the fear of ever allowing its political opponents the same opportunity. A second reason that “[t]he Fed exists in a twilight zone of political accountability [is] because its role is to make choices that others deem necessary but don’t wish to make publicly.” Such choices arose whenever political and economic logic clashed, notably when monetary policy had to be seriously tightened or a failing bank required a taxpayer bailout. For most politicians it was easier to leave the thankless, necessary decisions to the technocrats at the central bank–and then join in the popular outrage against them.
Nevertheless there existed a genuine threshold of political tolerance, which if breached would result in legislative abrogation of central bank autonomy. Such oversight constituted the ultimate mechanism of democratic accountability for central bankers. The political hue and cry exchanged through the press and the Fed chairman’s regular legislative testimony were thus part of the ongoing dialogue between government and central bank that defined the range of acceptable monetary policies. When the main governing forces–legislative and executive branches, opposition and governing parties–were largely agreed, no central bank, however independent in statute, could go its own way. “The Federal Reserve has a loose kind of independence,” describes ex-Secretary of State George Shultz. “it works well.”
One of the virtues of the true gold standard is the level of true insulation it gives central bankers from the meddling in monetary policy by political actors. Great virtues of the gold standard is its intuitive appeal to a majority of people and the attendant popular support of the defense of its integrity. (William Jennings Bryan’s three presidential nominations as a critic of the gold standard all ended in defeat.) Relying on the wish of the politicians to have it “make choices that others deem necessary but don’t wish to make publicly” is deeply inferior to relying on broad popular support for the integrity of the currency as evidenced by the definition of the dollar as a fixed weight of gold. Such support in turn will be buttressed by the climate of equitable prosperity which the classical gold standard so consistently fosters.
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