Regional President Speech

The Fed and the Coming Redefinition of Government Regulation James Bullard President and CEO Federal Reserve Bank of St. Louis Weathering the Storm: The Challenges and Opportunities of a Global Slowdown Business Today International Conference New York City 22 November 2009 Any opinions expressed here are mine and do not necessarily reflect those of other Federal Open Market Committee members. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY TOPICS Thestateoftheeconomy. Proposalsandprioritiesforregulatoryreform. TheFedandfinancialstability. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY THE FIRST PHASE OF ECONOMIC RECOVERY RealGDPgrowthhasrecentlyturnedpositiveintheU.S. Globalgrowthhassurprisedontheupside,especiallyinAsia. Householdconsumptionexpenditurehasstabilized. Financialmarketstresshasabatedsubstantiallysince2008Q4. Unemploymentishigh,andlabormarketsarelagging. Bottomline: TheU.S.isintheearlystagesofrecoveryfroma veryseriousrecession. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY SMALLER BANKS ARE NOT THE PROBLEM Regulationworkswellforthethousandsofsmallerbanksinthe U.S. Thesystemfeaturesdepositinsuranceplusprudential regulation. Thesystemallowsfailure,butpreventsbankrunsandthe associatedpanic. TheFDIChasarobustresolutionregimefortheseinstitutions. Smallerbanksdidnotcausethecurrentcrisisanddonotneedtobe re-regulated. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY THE RISE OF THE SHADOW BANKING SECTOR Theregulationsincommercialbankinggraduallypushed activityintolessregulatedfirms. Large,globalnon-bankfinancialinstitutionstookonbank-like activitiesandalargefractionofallfinancialintermediationin theU.S. Someinstitutionsborrowedshort—oncollateral—tofund longer-terminvestments. Thecrisisshowedthatrunsonnon-bank,non-deposit-taking financialinstitutionsarepossibleaswellasverydestructive. Thiswasnotpreviouslyconsideredaproblem. Thereisnoanalogofdepositinsurancetosolvethisproblem. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY KEY PROBLEM: TOO BIG TO FAIL Thecrisisshowedthatlargefinancialinstitutionsworldwide were“toobigtofail.”(TBTF) Really,“toobigtofailquickly.” Ifweletlargefinancialfirmsfailsuddenly,globalpanicensues. Again,thesefirmsarenotnecessarilybanks. Reformeffortsmustfocusongettingthisintolerablesituation undercontrol. TBTFisverycostlytothemacroeconomyaswellasunfair. Weneedlaser-likefocusonthisproblem. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY ACTUAL PROPOSALS ProposalsaddressingTBTF: Systemicriskregulation:AcouncilwiththeFedhaving implementationresponsibility. Aresolutionregimeforlargefinancialfirms. Splituplargefirms. Thereareimportantglobalcoordinationissues. Difficultiesindesignsuggestsa“goslow”approach. Thecrisiswillnotsoonbeforgotten. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY THE NATION’S THIRD ATTEMPT AT A CENTRAL BANK ThefirsttwocentralbanksintheU.S.werediscontinued. Thenationhadnocentralbankduringmuchofthe19thcentury. Theevidencefromthe19thcenturyisgenerallyregardedas unfavorable. Therewasfartoomuchfinancialinstability. ThisledtothefoundingoftheFedfollowingthePanicof1907. Theregionalstructurewasdesignedtokeepsomepoweroutof WashingtonandNewYork. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY PROVIDING FINANCIAL STABILITY Despitethecurrentcrisis,thetrackrecordoftheFedand financialcrisesisreasonablygoodduringthepast25years. Atleastfourmajorthreats: LatinAmericandebtcrisisinthe1980s. TheThriftCrisisinthelate1980sandearly1990s. TheAsianCurrencyCrisisinthe1997-1998period,leadingtothe collapseofLongTermCapitalManagement. ThecollapseofEnronandWorldComintheearlypartofthis decade. Despitethesethreats,theperiodwasoneofthemosttranquilon recordformacroeconomicperformance. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY EARLY WARNINGS TheFedprovidedimportantwarningsbeforethiscrisisbegan. WilliamPoole(FRB-St. Louis)arguedduringtheearly2000sthat FannieMaeandFreddieMacweretickingtimebombsthatcould badlydamagetheU.S.economy. GarySternandRonFeldman(FRB-Minneapolis)publishedan entirebook,“TooBigToFail,”in2004. ThesetypesofwarningsshowthattheFediswellawareof systemicriskconcernsinrealtime. Theproblemiswhattodointermsofconcretepolicyaction whentimesaregood. Disruptinggoodtimesinthenameofmitigatingpossiblefuture problemsisusuallyveryunpopular. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY THE FED AS LENDER OF LAST RESORT TheFedisthenation’slenderoflastresort. TheroleofFedlendinginmitigatingthecurrentcrisishasbeen substantial. TheFedneedstohavearoleinregulatinginstitutionstowhichit maylend. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY THE FED AS THE NATION’S MONETARY AUTHORITY Torunaneffectivemonetarypolicy,theFedneedstoknowthe conditionofthefinancialsystem. Theneedtoknowthestatusoffinancialmarketshasbeen underscoredbyrecentevents. ThisalsoarguesforasubstantialFedroleintheregulationof thesefirms. TheU.K.model,puttingtheFSAinchargeofregulationandthe BankofEnglandinchargeofmonetarypolicy,didnotworkwell duringthiscrisis. ThecrisisintheU.K.hasbeenevenworseinsomedimensions thanintheU.S. THEGLOBALRECOVERY REGULATORYPRIORITIES FINANCIALSTABILITY FED INDEPENDENCE Fedindependenceisvitalinmaintainingcrediblemonetary policy. Non-independentcentralbanks,historically,havebeenforcedto financelargegovernmentbudgetdeficitsthroughmoney creation. Thiscanbeveryinflationary. TheU.S.haslargegovernmentbudgetdeficitsrightnow. TalkoferodingFedindependencecanbecounterproductivefor economicrecovery. Federal Reserve Bank of St. Louis stlouisfed.org Federal Reserve Economic Data research.stlouisfed.org/fred2 James Bullard research.stlouisfed.org/econ/bullard/

James Bullard (2009, November 21). Regional President Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/regional_speeche_20091122_james_bullard

@misc{wtfs_regional_speeche_20091122_james_bullard,
  author = {James Bullard},
  title = {Regional President Speech},
  year = {2009},
  month = {Nov},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/regional_speeche_20091122_james_bullard},
  note = {Retrieved via When the Fed Speaks corpus}
}