For release on delivery
9:20 a.m. EDT (3:20 p.m. local time)
May 25, 2018
Financial Stability and Central Bank Transparency
Remarks by
Jerome H. Powell
Chairman
Board of Governors of the Federal Reserve System
at
"350 years of Central Banking: The Past, the Present and the Future"
A Sveriges Riksbank anniversary conference
sponsored by the Riksbank and the Riksdag
Stockholm, Sweden
May 25, 2018
Thank you for inviting me here to celebrate this important milestone. Today is a
special day for all of us, since the founding of the Riksbank 350 years ago marked the
beginning of central banking.1 As we meet to discuss the challenges and opportunities
the future may hold, it is worth pausing to note that the three and a half centuries since
the Riksbank's founding have seen economic growth and dynamism the breadth and
duration of which have been unprecedented in world history. The Swedish innovation we
celebrate today, I believe, is a vital part of the financial foundations that support the
continuation of rising prosperity.
In my comments today, I will explore the road ahead for public transparency and
accountability of central banks in a time of intense scrutiny and declining trust in public
institutions in many places around the world. As you know, the importance of
transparency and accountability to monetary policymaking was recognized and became
firmly entrenched in practice over the past few decades. The Riksbank has been a leader
in this transparency revolution. Today I will focus on the less-often emphasized but
critically important role transparency and accountability play in regulatory and financial
stability policies.
To preview my conclusions, public transparency and accountability around both
financial stability and monetary policy have become all the more important in light of the
extraordinary actions taken by central banks in response to the Global Financial Crisis.
Financial stability policymaking has evolved from managing individual crises as they
arise to establishing a policy framework that emphasizes prevention. This framework
now includes measures to increase the resiliency of the financial system; enhanced
1
See Bordo (2007).
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monitoring of financial institutions and of building risks to the system; and measures,
such as resolution planning, that require firms to take steps today to better prepare for
future episodes of stress. These innovations have placed special demands on
transparency and accountability, and we have worked hard to explain them to the public.
The framework is still evolving, and we will need to be open to making changes and to
new ways to enhance transparency and accountability.
Government, Central Banking, and Independence
This is a challenging moment for central banking. Opinion polls show that trust
in government and public institutions is at historic lows.2 In this environment, central
banks cannot take our measure of independence for granted.
For monetary policy, the case for central bank independence rests on the
demonstrated benefits of insulating monetary policy decisions from shorter-term political
considerations. But for a quarter century, inflation has been low and inflation
expectations anchored. We must not forget the lessons of the past, when a lack of central
bank independence led to episodes of runaway inflation and subsequent economic
contractions.
As for financial stability, the crisis and the severe recession that followed revealed
serious flaws at many private and public institutions, including shortcomings in
supervision and regulation. The crisis and its aftermath led central banks to take
extraordinary actions, actions that challenged the ingenuity of experts in the field and
were understandably difficult to explain and justify to a skeptical public. While these
actions were authorized by law and on the whole necessary to avert the complete collapse
2
For example, see Pew Research Center (2017).
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of the financial system's ability to service households and businesses, they may have also
contributed to the erosion of public trust.
Central banks are assigned narrow but important mandates. For monetary policy,
the Fed's mandate is to keep inflation low and stable and to achieve maximum
employment. For financial sector supervision and regulation, part of our mandate is to
foster the safety and soundness of individual institutions. In addition, we have a
responsibility, shared with other government agencies, to promote financial stability. I
view this responsibility as being highly complementary to other aspects of our mission:
Financial stability promotes sustainable economic growth, and a stable, well-functioning
financial system is an effective transmission channel for monetary policy. Indeed, there
can be no macroeconomic stability without financial stability.
Within our narrow mandates, to safeguard against political interference, central
banks are afforded instrument independence--that is, we are given considerable freedom
to choose the means to achieve legislatively-assigned goals. While the focus is often on
monetary policy independence, research suggests that a degree of independence in
regulatory and financial stability matters improves the stability of the banking system and
leads to better outcomes.3 For this reason, governments in many countries, including the
United States, have granted some institutional and budgetary independence to their
financial regulators.
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Financial Stability, Transparency and Accountability
In a democratic system, any degree of independence brings with it the obligation
to provide appropriate transparency. In turn, transparency provides an essential basis for
accountability and democratic legitimacy by enabling effective legislative oversight and
keeping the public informed.4 Of course, central banks also need to stick closely to our
mandates; the case for independence weakens to the extent that central banks stray into
issues that the legislature has not assigned to us.5
There is also an important policy effectiveness argument in favor of transparency.
In the financial stability arena, there is no better example of this than the role that the first
round of stress tests played during the crisis in restoring confidence in the U.S. banking
system.6 So in the financial stability realm, the case for enhanced transparency is not just
about being accountable; it is also about providing credible information that can help
restore and sustain public confidence in the financial system.
The post-crisis regulatory system recognizes the importance of enhanced
transparency, both about financial institutions themselves and about the processes and
expectations of regulators and supervisors. Before the crisis, supervision focused on the
safety and soundness of individual institutions and was insufficiently attentive to risk in
the financial system as a whole. Supervisory judgments about firms were shared with the
public only in rare and exceptional circumstances. Financial stability tools were
deployed after the fact, to address specific events that emerged to threaten stability. It is
an understatement to say that this approach proved inadequate in the crisis.
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The post-crisis regime has shifted to implementing preventive policies well in
advance of any crisis.7 Newly established ex ante policies include building the resilience
of institutions by requiring more and higher-quality capital and liquidity buffers; a regime
of stress tests undertaken by supervisors; and resolution planning, which requires firms to
analyze their own potential for distress or failure and create a plan to be used in the event
of bankruptcy. These post-crisis policies have benefitted from public solicitation of
feedback and in many cases from consideration in open meetings of the Board of
Governors.
Transparency and incorporation of public feedback in these areas have produced
more effective supervision and regulation. For example, transparent and clearly
communicated policies make it easier for regulated entities to know what is expected of
them and how best to comply. Of course, as with any large-scale, complex undertaking,
the standards adopted over the past decade can undoubtedly be improved. At the Fed, we
are committed to transparency as we assess the efficacy and efficiency of post-crisis
reforms.
In a sense, stress testing is itself a step forward in transparency. Pre-crisis,
supervisors' views of the risks facing our most systemically important firms--and the
firms' ability to understand and survive these risks--were shrouded in secrecy. Post-
crisis, as part of our stress-testing regime, these supervisory views and expectations are
transparent. We expect that these firms will have capital, liquidity, and risk-management
capabilities that are adequate for the firms not only to survive, but to continue to perform
their key functions even in the event of truly severe stress, akin to the global financial
7
See Tucker (2017).
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crisis. We make a great deal of information regarding the stress tests public, including
the scenarios we use, portfolio-level projected losses for participating firms, and, of
course, the results. We have also proposed for public comment a range of ways to further
enhance the transparency of the supervisory stress tests. This detailed disclosure
provides the public with a wealth of information on how these institutions would perform
under severe stress. And this transparency both enhances public confidence and holds
banking regulators accountable for their judgments.
At the Federal Reserve we use a variety of additional means to enhance public
understanding of our supervisory and financial stability efforts and judgments. The
Board's Vice Chairman for Supervision testifies before the Congress twice a year. The
Board staff's assessment of financial stability is discussed four times a year at Federal
Open Market Committee meetings, and these discussions are summarized in the
meeting's published minutes. And, since 2013, the semiannual Monetary Policy Report
to the Congress has contained a review of financial stability conditions.
The Way Forward
The post-crisis framework remains novel and unfamiliar. Some of these new
policies, such as stress testing and resolution planning, are inherently complex and
challenging for all involved. As a result, transparency and accountability around
financial stability tools present particular challenges. We will continue to strive to find
better ways to enhance transparency around our approach to preserving financial stability.
Efforts to engage with the public--including consumer groups, academics, and the
financial sector--are likely to lead to improved policies. Moreover, ongoing dialogue will
work to enhance public trust, as well as our ability to adapt to new threats as they emerge.
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There is every reason to expect that technology and communications will continue
to rapidly evolve, and to affect the financial system and financial stability in ways that we
cannot fully anticipate. While future innovations may well improve the delivery of
financial services and make the system stronger, they may also contain the seeds of
potential future systemic vulnerabilities. We will need to keep up with the pace of
innovation, which will doubtless require changes to our approach to financial stability.
As we consider such changes, it will remain critically important to provide transparency
and accountability. By doing so, we strengthen the foundation of democratic legitimacy
that enables central banks to serve the needs of our citizens, in the long and proud
tradition of the Riksbank.
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References
Bernanke, Ben S. (2013). "Stress Testing Banks: What Have We Learned?" speech
delivered at "Maintaining Financial Stability: Holding a Tiger by the Tail," a
financial markets conference sponsored by the Federal Reserve Bank of Atlanta,
held in Stone Mountain, Ga., April 8,
https://www.federalreserve.gov/newsevents/speech/bernanke20130408a.htm.
-------- (2017). "Monetary Policy in a New Era," paper presented at "Rethinking
Macroeconomic Policy," a conference held at the Peterson Institute, Washington,
October 2.
Bordo, Michael D. (2007). "A Brief History of Central Banks," Economic Commentary.
Cleveland: Federal Reserve Bank of Cleveland, December.
Goodhart, Charles, and Rosa Lastra (2018). "Populism and Central Bank Independence,"
Open Economies Review, vol. 29 (February), pp. 49-68.
Hogue, Henry, Marc Labonte, and Baird Webel (2017). Independence of Federal
Financial Regulators: Structure, Funding, and Other Issues, Congressional
Research Service Report 7-5700. Washington: CRS.
Kaufmann, Christine, and Rolf Weber (forthcoming). "Transparency of Central Banks'
Policies," in Peter Conti-Brown and Rosa Maria Lastra, eds., Research Handbook
on Central Banking. Northampton, Mass.: Edwin Elgar Publishing, pp. 518-34.
Pew Research Center (2017). "Public Trust in Government: 1958-2017," webpage, Pew
Research Center,
www.people-press.org/2017/12/14/public-trust-in-government1958-2017.
Tucker, Paul (2017). "What Is Macroprudential Policy for? Making It Safe for Central
Bankers," speech delivered at "Financial Systems and the Real Economy," a
conference sponsored by Bank Negara Malaysia and the Bank for International
Settlements, held in Kuala Lumpur, March 31,
https://www.bis.org/publ/bppdf/bispap91_keynote.pdf.