Analytical History of Federal Reserve Banking Supervision

The Fed’s role in banking supervision has increased enormously since its creation in 1913. This is puzzling in light of the original intentions of the congressional faction among the Fed’s founders, who sought to form a decentralized central bank that could respond to regional economic variations instead of slavishly following dictates from New York or Washington. Concentrated management of bank examinations in Washington eventually offset the originally intended and rational geographic dispersion of the Fed’s examiners. This concentration encouraged a decision-making process that increasingly favors politically powerful financial institutions at the expense of the rest of the nation. Further compounding the problem is the Fed’s increasing primacy in banking supervision. Congress insists on thrusting ever-greater supervisory powers onto the Fed despite its manifest supervisory failures. The series of banking crises that the United States has experienced since around 1971 tends to confirm this analysis of the core supervisory problem. Although most other leading industrial economies have bank supervision independent of the central bank, the United States is the leading global actor in making bank supervision a component of either monetary or fiscal policy. In the United States, the Fed’s banking supervision generally is politically unaccountable. It is inconceivable that a properly accountable financial institution supervisory system would have persisted in following the Fed’s policies of the last 20 years. This history explores the merits and demerits of imitating foreign examples by divorcing bank supervision from central banking, along with other possible paths for reform.