Jerome H Powell: "Audit the Fed" and other proposals
Speech by Mr Jerome H Powell, Member of the Board of Governors of the Federal Reserve
System, at the Catholic University of America, Columbus School of Law, Washington DC,
9 February 2015.
* * *
The views expressed here are my own and not necessarily those of other members of the Federal Open Market
Committee.
It is a pleasure and a particularly personal honor for me to speak to you today as a guest of
this institution.
I am proud to say that my grandfather, James J. Hayden, earned his doctorate of law
from Catholic University and later served as dean of the law school. He was an early
scholar of the regulation prompted by a technological innovation that would change the
world - aviation. He was, in that sense, someone who looked to the future and wanted to be
a part of it. In his years leading the law school, I hope my grandfather could also glimpse the
great institution that it would become.
It has been a little more than six years since the fall of 2008, when the peak of a severe
financial crisis presented the very real threat of a second Great Depression. The damage
was extensive, and for some time, the recovery was frustratingly slow. But the economy has
improved considerably over the past two years, and I am optimistic that that this
improvement will continue. The financial system is also stronger and more resilient after
improvements in regulation and oversight by the Federal Reserve and other agencies and
better management by banks and other financial firms.
The Fed acted boldly during and after the financial crisis in the face of great uncertainty. The
full effects of these policies will become clearer with the passage of time. Indeed, the Federal
Reserve's role in the Great Depression of the 1930s is still actively debated. That said, as I
will show, the evidence as of today is very strong that the Fed's actions generally succeeded
and are a major reason why the U.S. economy is now outperforming those of other advanced
nations. Other central banks are now embracing some of the same bold steps undertaken
much earlier by the Fed.
Against that background, I am concerned about several troubling proposals that would
subject monetary policy to undue political pressure and place new limits on the Fed's ability
to respond to future crises. My remarks will address three such proposals. The first goes by
the somewhat misleading name of "Audit the Fed," and would subject the Federal Reserve's
conduct of monetary policy to unlimited congressional policy audits (not to be confused with
financial audits, which are already conducted regularly.)1 The second is a proposal to require
the Fed to adopt and follow a specific equation in setting monetary policy and to face
immediate congressional hearings and investigation by the Government Accountability Office
(GAO) whenever it deviates from the policy dictated by that equation.2 And, third, there are
discussions about imposing new limitations on the Fed's long-held powers to provide liquidity
during a financial crisis.
I think these proposals are misguided for three reasons.
First, they are motivated by the belief that the Fed's response during the crisis was both
ineffective and outside the bounds of its traditional role and responsibilities. In fact, the Fed's
actions were effective, necessary, appropriate, and very much in keeping with the traditional
role of the Fed and other central banks.
Second, these proposals are based on the assertion that the Federal Reserve operates in
secrecy and was not accountable for its actions during the crisis, a perspective that is in
violent conflict with the facts. The Fed has been transparent, accountable, and subject to
extensive oversight, especially during and since the crisis. We have also taken appropriate
steps since the crisis to further enhance that transparency.
Third, and most importantly, I believe these proposals fail to anticipate the significant costs
and risks of subjecting monetary policy to political pressure and constraining the Fed's ability
to carry out its traditional role of providing liquidity in a crisis.
Appropriate and effective
There is no dispute that the Fed's actions after the onset of the financial crisis were
unprecedented in scale and scope.
To help stabilize the financial system and keep credit flowing to households and businesses,
the Federal Reserve lent to banks through the discount window and to financial institutions
and markets through numerous new broad-based lending facilities it created using
emergency lending authority granted by the Congress during the Great Depression.3 In a
limited number of cases, the Fed also extended liquidity support to individual institutions
whose imminent failure threatened to bring down the global financial system.
At the same time, the Federal Reserve used monetary policy to help stabilize the economy.
After cutting our target for the overnight interest rate on loans between banks - our usual
monetary policy tool - as low as it could go, the Fed took further action using unconventional
policy tools. These policies involved communication, providing "forward guidance" that the
Federal Open Market Committee (FOMC) expected to keep rates low for longer than had
been expected, and also purchasing large amounts of longer-term Treasury debt and other
securities to put downward pressure on long-term interest rates.
While these actions were extraordinary and in some respects unprecedented, they were
taken because the threats posed by the crisis were also without precedent, even in the
events that led to the Great Depression.4 For the first time, cutting the Fed's policy rate to
near zero proved insufficient to halt a plummeting economy; so the Fed took further action.
For the first time since the Great Depression, our nation faced a financial panic so severe
that the Fed's normal overnight lending to banks was not enough; so the Fed did more, using
congressionally granted powers it had held but not used since the 1930s that were intended
to deal with just such rare emergencies.
As the Congress considers proposals that will affect the conduct of monetary policy and the
Fed's ability to respond in a crisis, I believe it is also important to recognize how effective the
Fed's response has been.
With respect to monetary policy, the unconventional policies were designed to stimulate the
economy in the same way as traditional monetary policy, by lowering interest rates. These
actions helped deliver highly accommodative policy, which was essential given the depth of
the recession. Without these steps, the slump in the labor market and the broader economy
surely would have been even deeper and more prolonged, and the low wage and price
inflation we are still experiencing might have turned into outright deflation.
Critics warned that these policies would unleash uncontrollable inflation, fail to stimulate
demand, and court other known and unknown risks. After I joined the Federal Reserve Board
in May 2012, I too expressed doubts about the efficacy and risks of further asset purchases.
But let's let the data speak: The evidence so far is clear that the benefits of these policies
have been substantial, and that the risks have not materialized. Inflation has continued to run
well below the Committee's 2 percent objective. Indeed, some argue today that low inflation
should cause the Committee to hold off from raising interest rates. As I noted at the outset,
due in part to the Fed's effective response to the crisis, the recovery in the United States has
been stronger than that of other advanced economies, with more rapid job creation, lower
unemployment, and faster growth. That is one reason why a number of central banks around
the world have adopted forward guidance and asset purchase programs similar to the
policies adopted by the Fed.5
The Federal Reserve's lending in the crisis was also successful. There is little dispute today
that the crisis threatened a global financial collapse and depression, and that these liquidity
policies were instrumental in arresting the crisis.
Warnings about the Fed's lending also have not been borne out. Critics claimed the Fed had
been reckless, throwing money ineffectively at problems and making loans to uncreditworthy
borrowers. On the contrary, the Fed's lending was targeted to institutions, markets, and
sectors that proved central to arresting the crisis. Loans were extended based on the same
terms that the Federal Reserve has always applied - the borrowers must be solvent, the
loans must be secured, and an appropriate interest rate must be charged. As a result, every
single loan we made was repaid in full, on time, with interest.6
Traditional oversight of the Federal Reserve was extensive and effective
The Federal Reserve, like other parts of our democratic system of government, must be
accountable to the public and its elected representatives. Given the scale of the Fed's
actions during the Crisis, it has been not only appropriate but essential that these actions be
transparent to the public and subject to close and careful scrutiny by the Congress. And that
is exactly what happened. So it is jarring to hear it asserted that the Fed carries out its duties
in secret and is unaccountable to the public and its elected representatives. The Federal
Reserve is highly transparent and accountable to the public and to the Congress.
First, the Fed does not set its own goals for monetary policy. Congress assigned us the goals
of price stability and maximum employment - that is, the highest level of employment
achievable without threatening price stability. Federal Reserve Board members are
nominated by the President and must be confirmed by the Senate. The Chair of the Fed
appears before both the House and Senate oversight committees twice every year to report
on monetary policy, and, in practice, to respond to questions about anything and everything
5
On the effectiveness of the Fed's unconventional monetary policy, see Eric M. Engen, Thomas T.
Laubach, and David Reifschneider (2015), "The Macroeconomic Effects of the Federal Reserve's
Unconventional Monetary Policy Actions (PDF)," Finance and Economic Discussion Series 2015-005
(Washington: Board of Governors of the Federal Reserve System, January); Joseph Gagnon, Matthew
Raskin, Julie Remache, and Brian Sack (2011), "The Financial Market Effects of the Federal Reserve's
Large-Scale Asset Purchases," International Journal of Central Banking, vol. 7 (March), pp. 3-43; Stefania
D'Amico and Thomas B. King (2013), "Flow and Stock Effects of Large-Scale Treasury Purchases: Evidence
on the Importance of Local Supply," Journal of Money, Credit and Banking, vol. 44 (February, issue
supplement s1), pp. 3-46.
6
On the effectiveness of the Fed's emergency lending, see Sean D. Campbell, Daniel M. Covitz, William R.
Nelson, and Karen M. Pence (2011), "Securitization Markets and Central Banking: An Evaluation of the Term
Asset-Backed Securities Loan Facility," Journal of Finance, vol. 68 (April), pp. 715-37; and Tao Wu (2011),
"The U.S. Money Market and the Term Auction Facility in the Financial Crisis of 2007-2009," Review of
Economics and Statistics, vol. 93 (May), pp. 617-31.
related to the Fed's activities. The Chair and other Board members routinely make additional
appearances before the Congress and meet frequently with members.
More generally, the Fed is open and transparent in its operations, including those related to
monetary policy, accounting for itself in timely postmeeting FOMC statements, minutes,
broadcast press conferences, and speeches.7 Details about the Fed's balance sheet are on
the public record; in fact, every security owned by the Fed is identified individually on the
website of the Federal Reserve Bank of New York.8 The FOMC's plans to normalize the
balance sheet have been the subject of exhaustive discussion - in FOMC meetings, in
speeches by policymakers, and among the many journalists and academics who analyze
and discuss Fed policies. Last September, the FOMC published its Normalization Principles,
which set forth its plans to reduce the balance sheet to a more normal level over time.9
The Fed's financial statements are also a matter of public record, and are audited annually
by independent, outside auditors under the watchful eye of the Fed's independent Inspector
General.10 I am well aware of this because I chair the committees that have oversight
responsibility for the audits of the Board and the Reserve Banks. I worked for many years in
the financial markets, and I can tell you that the Federal Reserve's financial statements,
though they contain very large numbers, are relatively straightforward - much simpler than
those of a typical regional bank.
The Fed's operations, including its role regulating and supervising banks, are subject to
extensive review by the GAO. If you visit the GAO's website, you'll find more than 70 reports
since the crisis that are wholly or partly dedicated to reviewing the Fed's operations,
including the emergency lending facilities I mentioned earlier.11 The GAO works closely with
the Fed's Office of Inspector General, which is involved in both financial audits and other
oversight of our operations.
The extensive oversight I describe intensified - appropriately so - as the Federal Reserve
responded to the financial crisis. Our lending facilities were also the subject of review by the
Fed's Inspector General, the Special Inspector General for the Troubled Asset Relief
Program, the Congressional Oversight Panel, the Financial Crisis Inquiry Commission
established by the Congress, and numerous congressional hearings and reviews.
The Fed's actions were also fully transparent. As always, monetary policy decisions were
debated and voted on by the FOMC and announced immediately, with detailed explanations
provided in the minutes of these deliberations. The Fed provided public guidance on its plans
to purchase assets and made those purchases in open, competitive transactions that were
disclosed as soon as they occurred.
The terms and conditions for every lending facility were publicly disclosed. The amounts lent
under each program were published on the Fed's weekly balance sheet report. The Fed
created a website and issued a monthly report to the Congress disclosing details on all
loans, such as the quantity and quality of collateral posted by borrowers.12
The significant costs of restrictions on the Fed's independence
As I said at the outset, I believe these proposals under consideration by the Congress fail to
anticipate the significant costs and risks of subjecting the Fed's conduct of monetary policy to
political pressure and of limiting the ability of the Fed to execute its traditional role of keeping
credit flowing to American households and businesses in a financial crisis.
Let me first address "Audit the Fed," which would repeal a narrow but critical exemption,
adopted by the Congress in 1978, to limit GAO policy reviews of the Fed's conduct of
monetary policy. The Congress granted this exemption because the costs of involving the
GAO in monetary policy, including the substantial risk of political interference, far outweigh
the potential benefits.
It is important to note that GAO investigations are not the financial audits that many assume
them to be. They extend beyond mere accounting to examine strategy, judgments and
dayto-day decisionmaking. Indeed, by statute, the GAO is charged with making
recommendations to Congress about the areas they have reviewed. This could put the GAO
in the position of reviewing the FOMC's policy decisions and recommending its own course
for monetary policy.
With these features in mind, the potential benefits of GAO policy audits would be small, even
before considering the potential costs. Unlike the programs that are typically the subject of
GAO policy audits, such as procurement decisions that may be brought to light only by the
GAO's attention, monetary policy decisions occur with all of the world watching. They are
announced immediately, described in an FOMC statement, often elaborated on in a press
conference, and the subject of endless same-day-analysis and debate.
With all of this transparency and analysis, very little would be revealed by GAO policy audits
that would help evaluate the effectiveness of monetary policy. The benefits of frequent GAO
policy audits would also be low because the effects of monetary policy are felt with a
considerable time lag and are often only clear years later.
Audit the Fed also risks inserting the Congress directly into monetary policy decisionmaking,
reversing decades of deliberate effort by the Congress to insulate the Fed from political
pressure in carrying out its day-to-day duties. Indeed, some advocates of the bill have
expressed support for complete elimination of the Federal Reserve. Long experience, in the
United States and in other advanced economies, has demonstrated that monetary policy is
most successful when decisions are rendered independent of influence by elected officials.
As recent U.S. history has shown, elected officials have often pushed for easier policies that
serve short-term political interests, at the expense of higher inflation and damage to the
longterm health and stability of the economy.13
After World War II and as recently as the early 1970s, political pressures likely influenced
Federal Reserve decisionmaking in a way which helped cause excessive inflation and
related bouts of economic weakness. In 1977, as what came to be called the Great Inflation
neared its peak, the Congress passed legislation that spelled out the goals for monetary
policy - maximum employment and stable prices - but left it to the Fed to precisely define
those goals and the means by which they would be achieved.14 To preserve the Fed's
independence in implementing policy to reach these goals, the Congress exempted
monetary policy from the GAO investigations it was then authorizing for other Fed
operations.
This independence has served the nation well. Over the 20 years or so prior to the crisis, the
Federal Reserve was able to maintain low and stable inflation, and recessions were brief and
mild.15 That is not to say that the Fed got everything just right during this period. But it seems
to me that any pre-crisis shortcomings were in regulation and supervision by the Fed and
other agencies, rather than in monetary policy.
And there are other costs from subjecting monetary policy to GAO investigations. Frequent
GAO investigations would likely inhibit the debate and flow of information and ideas at FOMC
meetings among staff and policymakers, which would lead to poorer decisions. Market
participants would have to wonder whether the FOMC would react to GAO criticism, and they
could lose confidence in the Fed's independence, reducing its credibility.
To those who may doubt that GAO investigations would be used by the Congress to try to
influence monetary policy, let me briefly describe another proposal which envisions exactly
that. This bill would require the FOMC to carry out monetary policy according to a simple
equation and require immediate congressional hearings and a GAO audit whenever
monetary policy deviates from this equation.16 Simple policy rules of this nature are used by
the FOMC and by central banks around the world as a guide to policy. No central bank
applies them in such a mechanical fashion, and there is very little support among economists
for doing so.17 Based on my own experience in business, in government service, and in life, I
doubt that important decisions can be reduced ultimately to such an equation. The most such
a rule might do is get you 80 percent of the way there; that last 20 percent makes all the
difference.
Finally, there has been discussion in the Congress of imposing new restrictions on the ability
of the Fed to respond as it did with liquidity facilities during the financial crisis. Although I am
not aware of a specific bill at this point, the idea is to limit the Fed's authority under
section 13(3) of the Federal Reserve Act, under which the Fed is empowered to lend "in
unusual and exigent circumstances" to firms beyond banks for the purpose of containing a
financial crisis.
The Fed used this emergency lending authority to provide liquidity in the face of a
systemwide panic that threatened the financial system. As the crisis receded, the Congress
took two related actions. First, it gave the regulators what they had badly needed during the
crisis, which was a means of resolving the largest financial institutions without threatening
14
See Robert J. Samuelson (2008), The Great Inflation and Its Aftermath: The Transformation of America's
Economy, Politics, and Society (New York: Random House).
15
See the figure "Annualized 12-Month PCE and Core PCE Inflation" that shows inflation and core inflation over
time.
16
See Federal Reserve Transparency Act of 2015 in note 2.
17
As part of its ongoing Initiative on Global Markets (IGM) poll, the University of Chicago, Booth School of
Business, asked 44 prominent economists to respond to the following statement: "Legislation introduced
in Congress would require the Federal Reserve to "submit to the appropriate congressional
committees...a Directive Policy Rule," which shall describe "the strategy or rule of the Federal Open
Market Committee for the systematic quantitative adjustment of the Policy Instrument Target to respond
to a change in the Intermediate Policy Inputs." Should the Fed deviate from the rule, the Fed Chair would
have to "testify before the appropriate congressional committees as to why the [rule]...is not in
compliance." Enacting this provision would improve monetary policy outcomes in the U.S." None of the
participants agreed with the statement, and almost all disagreed or strongly disagreed. The results of the
poll are available on the Booth School's IGM Forum website at
www.igmchicago.org/igm-economicexperts-panel/poll-results?SurveyID=SV_doNZ9FbNq7tDi97.
the financial system. Second, the Congress prohibited emergency loans to individual firms
but retained the Fed's ability to establish broadly available lending programs during a crisis,
with the prior approval of the Secretary of the Treasury and timely notification of the
Congress.
This tradeoff came after extensive consultation between the Congress and the Federal
Reserve. And I believe that it struck a reasonable balance. I also believe it would be a
mistake to go further and impose additional restrictions. One of the lessons of the crisis is
that the financial system evolves so quickly that it is difficult to predict where threats will
emerge and what actions may be needed in the future to respond. Because we cannot
anticipate what may be needed in the future, the Congress should preserve the ability of the
Fed to respond flexibly and nimbly to future emergencies. Further restricting or eliminating
the Fed's emergency lending authority will not prevent future crises, but it will hinder the
Fed's ability to limit the harm from those crises for families and businesses.
Conclusion
In our democratic system, the Federal Reserve owes the public and the Congress a high
degree of transparency and accountability. The Congress has wisely given the Fed the tools
it needs to implement monetary policy and respond to future crises as well as crucial
independence to do its work free from short-term political influence. I would urge caution
regarding current proposals that threaten just such political influence and place restrictions
on the very tools that so recently proved essential in preventing a new depression.
Congressional oversight of the Federal Reserve, including its conduct of monetary policy, is
extensive, but no doubt could be improved in ways that do not threaten the Fed's
effectiveness. I would welcome discussions with the Congress about ways to aid its
important oversight of monetary policy. There may be differing views of how Congress can
best carry out this responsibility, but there can be no disagreement about the purpose of
such oversight, which is to help the Federal Reserve succeed in promoting a healthy
economy and a strong and stable financial system. Those are the goals Congress assigned
the Federal Reserve a century ago, and I am optimistic that Congress and the Fed will
continue to work together to pursue them on behalf of the American people.