The Institute Blog

Confidence Game: Simon Johnson on the Conflicted NY Fed

Have you ever heard the old adage about the danger of allowing foxes to guard the henhouse? Apparently the New York Fed hasn’t.

So says MIT professor and INET Advisory Board member Simon Johnson in a recent post on The New York Times’ Economix blog. Johnson blasts the New York Fed for the conflicts of interests inherent within its ranks.

“Prominent executives in the financial sector and their close allies are much too involved in how the New York Fed operates,” writes Johnson, who has repeatedly called for J.P. Morgan chief Jamie Dimon to step down from the New York Fed’s board of governors. Johnson is even circulating an online petition for Dimon to step down from the New York Fed that has garnered almost 40,000 signatures.

“This is partly an anachronistic holdover from 

the original Federal Reserve Act of 1913 – and reflects the political milieu of that time, in which bankers had to be persuaded to accept a central bank.”

But this marriage of regulator and regulated has long outlived its use. The problem, Johnson says, is that “the complacency of the entire Fed system leading up to the financial crisis can be traced in part to the cozy relationship between the New York Fed (headed then by Mr. Geithner) and the Wall Street elite. We cannot let this happen again.”

Johnson notes that these conflicts of interest are particularly pernicious because “sensible liquidity support can easily become inappropriate subsidies, particularly when some financial institutions are considered too big to fail.”

And the New York Fed’s opacity doesn’t help.

“Outsiders will never observe the real-time information on which central banks make decisions, so we need to be able to trust the people running our central bank; otherwise the system will go badly wrong — again,” Johnson says. And, as a result, “all too often with regard to financial reform today, we find the Fed lagging rather than leading.”

All of this undermines the trust in a system that needs to be above reproach to succeed. At a time when bankers often criticize government ineffectiveness for undermining the confidence of the private sector, one would expect the New York Fed to be reassuring an anxious public that it is focused purely on looking out for our economic best interests. Instead it remains tone deaf to the obvious conflicts of interest baked into the regulatory system.

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Comments

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This is an example of how the financial corporate business "walks the dog on a lead". Obviously, banks still interested in accepting the greatest risks to maximize profit (which are, by nature, those
"too big to fail-banks) don't trust in federal institutions to protect them in case of a self-imposed crash but have grabbed the institutions itself to initate their own saving.
It's a further module when trying to understand the causes of the crash in recent years.
Imagine a public system lacking both a legislative and a judiciary.
An executive authority alone could impose everything, without any control, any protection of public discussion etc. It's dictatorship.
In this context, the term "dictatorship of the financial markets" gains an appropriate relevance. It means that market players control the institutions designed to control them. We'll see the same consequences: Banks are allowed to impose what they want, unmindful of consquences beyond their space and, equally fatal, their own space. There's just one difference: In our financial system, we see the make-believe that control is part of the system. But, the nice shell contains a further reason for the world's crisis.
You can never see past the choices you don't understand. People defending the system tend to say this. Just let us do our job and it will be all right. The time when people believed in this are gone.
It's the public duty to also question institutions like the FED.
Simon Johnson contributes to such a decisive discussion.

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