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No, Successful Executives are not Qualified to run the Federal Reserve

Here’s an interesting thought from Mark Gilbert at Bloomberg who argues that bankers shouldn’t run Central Banks:

I’m sure I’ve missed some examples from around the central banking world, but the bottom line is that the expertise of entrepreneurs and executives isn’t being tapped to help steer the global economy, and that’s a missed opportunity. (The same argument applies to finance ministers, but I suspect asking business people to stoop to the grubby world of politics is a step too far.)

So why not try persuading Bill Gates, Richard Branson, Elon Musk, Michael Dell, Lakshmi Mittal, Giorgio Armani, Dave Geffen, Vincent Bollore or James Dyson to serve a term at a central bank? And while we’re at it, why not Elizabeth Holmes, the youngest self-made female billionaire in the U.S., or Angela Ahrendts, poached from Burberry by Apple, or Marjorie Scardino, who ran the Economist magazine and then its owner Pearson until a few years ago?

The logic here is very attractive. If the Federal Reserve is a hugely important component of steering US economic policy then why should its leadership be confined to just bankers and economists?  Well, the answer is simple – because the Federal Reserve is a bank and ultimately, if you don’t understand how banking works you won’t understand how the Federal Reserve works.  And most people, no matter how brilliant and successful they might be, do not understand how banking works.

More importantly, I’d argue that most of us make too much of Central Bank policy. There’s no doubt that it’s important, but the world’s Central Banks probably get too much criticism as well as too much credit at times. Central banking has proven far less powerful in the last 5 years than most people would have thought. After all, we’ve “printed” $5 trillion and what has it gotten us? A sub-par recovery? At what point do we begin to question the theory that Central Banks are omnipotent?

Further, if there’s a weakness in Fed policy, it’s that Central Bankers don’t have a sound understanding of banking.  We don’t need fewer bankers and economists running Central Banks. We just need economists and Central Bankers who actually understand how banking works as opposed to Central Bankers and economists who make categorically incorrect comments such as:

“But as the economy recovers, banks should find more opportunities to lend out their reserves.”

–  Ben Bernanke, Former Fed Chairman, 2009

“Commercial banks are required to hold reserves equal to a share of their checkable deposits. Since reserves in excess of the required amount did not earn any interest from the Fed before 2008, commercial banks had an incentive to lend to households and businesses until the resulting growth of deposits used up all of those excess reserves.”

– Martin Feldstein, Harvard Economics Professor, 2013

“the Fed is paying the banks interest not to lend out the money, but to hold it within the Fed in what are called excess reserves.”

– Laurence Kotlikoff, Boston University Economics Professor, 2013

“Notice that “excess reserves” are historically very close to zero. This reflects the tendency (assumed in textbook discussions of “open market operations”) for commercial banks to quickly lend out any reserves they have, over and above their legally required minimum.”

–  Robert Murphy, Mises Institute, 2011

“In normal times, banks don’t want excess reserves, which yield them no profit. So they quickly lend out any idle funds they receive. “

–  Alan Blinder, Princeton University Economics Professor, 2009

“given sufficient time, [banks] will make enough new loans until they are once again reserve constrained. The expansion of money, given an increase in the monetary base, is inevitable, and will ultimately result in higher inflation and interest rates.”

–  Art Laffer, Former Reagan Economic Advisor, 2009

“First of all, any individual bank does, in fact, have to lend out the money it receives in deposits. Bank loan officers can’t just issue checks out of thin air”

–  Paul Krugman, Princeton University Economics Professor, 2012

“Ohanian points out that the Fed has done a lot already, having increased bank reserves from $40 billion to $900 billion. But this liquidity injection was not what it seems — indeed, if it was, we’d now have hyperinflation. In reality, the Fed completely neutralized the injection by starting a new policy of paying interest on reserves, causing banks to simply hoard these “excess reserves,” instead of lending them out. The money never made it out into the economy, so it did not stimulate demand.”

–  Scott Sumner, 2009

There is no doubt that all of the names on Gilbert’s list are brilliant. And they could probably manage most businesses and institutions fairly well. But Central Banking and banking is a very specific type of business. In fact, the most brilliant economists and bankers around still disagree on how Central Banks impact the economy and what is the ideal way to implement policy. But that doesn’t mean we should throw them all out and bring in banking novices. That would take a mediocre situation and turn it into something legitimately bad.

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