Demystifying the Fed

Peter Conti-Brown, The Institutions of Federal Reserve Independence, Rock Center for Corp. Governance at Stanford Univ. Working Paper No. 139 (2014), available at SSRN.

Exactly one hundred years after its birth, the Federal Reserve remains one of the most powerful and mysterious institutions in the world. The recent global financial crisis made it exceedingly clear how much the Fed can do – and, in fact, does do – to shore up failing financial markets and prevent the entire economic system from collapsing. That same display of strength under fire, however, exposed the darker side of Fed power: what if it’s abused or misused in ways that can hurt all of us? Both revered and feared for its apparent ability to pull at the hidden strings that keep the national (and even global) economy going, the Fed has emerged from the latest crisis with an expanded regulatory mandate and an even greater political visibility. Some applaud this development, while others criticize it. Yet, despite all of our post-crisis wisdom and divided opinions, how well do we know the Fed? Do we actually understand the sources and nature of the Fed’s century-old “magic”?

If you hesitate at all before giving an affirmative answer, you should read Peter Conti-Brown’s recent article, The Institutions of Federal Reserve Independence, a brand new draft of which is currently available on SSRN. This piece is an opening move in Conti-Brown’s larger project – a book entitled The Structure of Federal Reserve Independence (Princeton University Press, forthcoming 2015). The book promises to offer a comprehensive and historically-grounded analysis of the Fed’s “independence,” that critical ingredient of its powerful magic. To Conti-Brown, however, the Fed’s independence is much more than a dry legal concept – it is a complex real-life phenomenon, a unique “ecosystem” continuously evolving through interactions among multiple legal, political, administrative, ideological, and even cultural factors. From his perspective, it doesn’t make sense to speak of the central bank’s “independence” as a static formal attribute that means the same thing in every context. Instead, the task is to understand the key mechanisms, both formal and informal, through which the Fed exercises its independence vis-à-vis specific parties, or audiences.

While we have to wait for a full account of the logic and operation of that ecosystem in Conti-Brown’s forthcoming book, his first contribution to this fascinating project gives us a proper taste of what’s coming. In this article, Conti-Brown challenges the prevailing notion of the Fed’s independence as predominantly, if not entirely, a creature of law. He criticizes the administrative law scholars’ myopic focus on the President’s removal power as the sole determinant of an agency’s “independent” status, as well as economists’ and political scientists’ assumption that law is the ultimate source of the central bank’s independence. Conti-Brown’s reaction to this assumption is startlingly decisive: “The idea that Fed independence is determined by law is wrong.” Through painstaking examination of every feature that arguably makes the Fed more or less accountable to, or autonomous from, outside audiences, public and private, the article seeks to demonstrate “the law’s subtlety and, sometimes, its irrelevance.” 

For example, Conti-Brown argues that, contrary to common misconceptions, the Fed’s unique budgetary independence is not a direct result of any express statutory authorization but an extraordinary product of decades of interaction between the law and various extra-legal institutions, such as economic doctrines and the Fed’s own open market operations. He also show that the oft-cited statutory requirement of non-renewable fourteen-year terms for Fed Governors, in practice, does not prevent the President from “stacking” the Fed with his/her appointees.  These are just two examples of Conti-Brown’s efforts to defy simplistic explanations and to expose the complex reality of the “law on the books” interacting with the “law on the ground.” The article goes in great detail through the legal and non-legal mechanisms of the Fed’s independence vis-à-vis three sets of actors: Congress, the President, and the private banks that are members of the Federal Reserve System.

By contextualizing the Fed’s “independence” in this manner, Conti-Brown seeks to enrich our collective understanding of the Fed’s operation and role. Such knowledge is inherently empowering: it broadens our intellectual horizons and potentially unlocks new avenues for creative regulatory design and policy-making. Of course, an intense investigation of this kind tends to be heavy on technical detail that does not necessarily make for an easy read.  Not surprisingly, this article is dense and will keep your mind actively engaged all the way to the end. But the result will be well worth the effort. And, if you are anything like me, reading this provocative article will make you wait impatiently for Conti-Brown’s book that (hopefully) will tell a much fuller story of the Fed and its unique independence.