Monetary policy has always been political. Key conflicts have pitted coalitions at odds over the availability of money, credit, and jobs: bankers versus borrowers, Washington versus Wall Street, urban versus rural, and so on. Despite the consequences of such conflicts for the health of American households and the national economy, few political scientists have studied the U.S. Federal Reserve—the key political institution whose policy choices are central to the paths and outcomes of such debates.
Enter Lawrence Jacobs and Desmond King, whose Fed Power shines an important light on the Federal Reserve as an inherently political institution. Given the depth of the last recession and the Fed’s implementation of controversial, unconventional monetary policies in the wake of the financial panic, it is perhaps no surprise that the central bank has been caught in political crosshairs. As such, Jacobs and King’s critique of the Fed’s role in the broader political system arrives at a particularly opportune time.
Analysis of central banking flourishes within comparative politics and international political economy. But scholars of American politics have paid relatively little attention to the Fed. This book makes a bold contribution to emerging debates. Aiming for a broad readership, Jacobs and King write in an accessible style, move swiftly over a broad swath of Fed history, dig deep into monetary politics during and after the financial crisis, and offer comparative examples to argue why and how the Fed went astray and how it could have done better. The result is a strong critique of the biases that the authors perceive in the Fed as a political institution and the preeminent economic policymaker in the world. The central argument of Fed Power is threefold.
First, according to Jacobs and King, the Federal Reserve is a democratically unaccountable institution. They suggest that over the course of Fed history, the Fed’s budgetary autonomy from Congress and its intimate-by-design relationship with banks empowered the central bank and the financial sector. Moreover, the authors argue that the Fed can act stealthily—without public debate or congressional hearings. As a result, its power grows because the Fed is untethered to elected officials who might otherwise attempt to rein it in. Exhibit A in their account is the Fed’s behavior during the global financial crisis. They argue that the Fed designed policies intended to favor banking and investment industries at the expense of individual homeowners hardest hit when the housing bubble burst. As a result, Wall Street recovered relatively quickly from the crisis; Main Street did not.
Second, after detecting what they term a “consistent pattern of favoritism” (p. 101), Jacobs and King assert that the Fed could have adopted more effective policies, less tilted toward financial interests. In particular, they praise the approaches of the Banks of Canada and England. They argue that those two countries came through the crisis far better than did the United States—albeit recognizing the two countries’ distinct political and banking systems.
Third, Jacobs and King contend that the Fed’s choice of monetary policies fueled preexisting income inequality in the United States. By crafting policies that bolstered the bottom lines of “too big to fail” financial institutions, the Fed, according to the authors, enhanced the flow of riches to the top 1% at the expense of Middle America. Top earners and institutions rebounded smartly, they note. In contrast, few on Main Street were so lucky.
Jacobs and King draw provocative conclusions about the interdependency of the Fed and the financial industry, the Fed’s responsibility for the onset of the financial crisis, and necessary reforms for the U.S. financial architecture. As such, their critique raises several questions for students of American political economy and institutions, all of which are open to competing interpretations.
First, is the Fed as unaccountable as the authors suggest? The Fed’s structure, powers, and governance stem directly from political choices made by Congress. As such, it seems difficult to conceptualize the Fed as an entirely undemocratic and unaccountable institution. That Congress is its boss has an important implication for the book. When the Fed acted in the heat of the crisis—coming largely to the aid of financial institutions—it did so under legal authority granted by Congress. To be sure, Fed officials debated contemporaneously whether they were deploying their emergency powers as Congress had intended; some outside of the Fed later argued that the officials stretched their powers beyond the limit. But Congress was the source of such power.
After the crisis, lawmakers clipped those same emergency powers when they rewired the financial regulatory system—making the Fed pay a price for how it deployed its congressionally allocated policy tools. Granted, it took legislative and judicial action to force the Fed to reveal the recipients of its emergency loans. But those moves undercut charges that the Fed is unaccountable to public officials. None of this absolves the Fed of at least partial blame for causing the crisis in the first place, as the authors remind us. In light of Congress’s actions before and after the crisis, however, it seems difficult to call the Fed a wholly unaccountable agency.
Second, were the Fed’s unconventional policies as harmful to the polity as the authors suggest? Jacobs and King single out the Fed’s unwillingness to directly help homeowners—suggesting, for example, that the Fed should have pursued “cram down” policies to reduce homeowner debt in bankruptcy court. But the Fed lacked legal authority to do so. A Democratic Congress in 2009 and 2010 debated, but stalemated, over empowering bankruptcy judges to write down homeowner mortgages. And the Fed lobbied Congress to use fiscal policy tools to help homeowners. All that said, the 2009 CNBC rant by Rick Santelli that gave rise to the Tea Party stemmed from an Obama White House proposal to forgive household debt. Even if the Fed had authority to directly aid homeowners, they would have faced partisan political fire no matter how they acted.
A related concern of the authors is appropriately the effect of the Fed’s large-scale asset purchase program on economic inequality. Jacobs and King argue that the Fed’s multi-trillion-dollar bond acquisition benefited the wealthy, exacerbating income inequality in the wake of the crisis. Although they cite former Fed Chair Ben S. Bernanke in support, he questioned such claims (Ben S. Bernanke, “Monetary Policy and Inequality,” The Brookings Institution, June 1, 2015). And in the years since the crisis, Bernanke has been clear that the Fed’s purchase of mortgage-backed securities and Treasury bonds lowered mortgage rates, boosted house prices, and helped to stabilize housing markets.
Fed policies increased stock prices to record levels, and stocks are held disproportionately by the wealthy. But boosting the equity market has broad benefits—for pension funds, private-sector employment, and capital investment—all of which can directly help the working or middle classes. Indeed, one postcrisis study from the left-leaning Economic Policy Institute showed that middle-class wealth is largely based on home equity, and so by capping mortgage rates, the Fed’s bond buying likely dampened a decades-long movement toward greater inequality (Josh Bivens, “Gauging the Impact of the Fed on Inequality in the Great Recession,” Hutchins Center Working Paper, June 1, 2015). Moreover, the Fed’s dual mandate from Congress requires the Fed to maximize employment and stabilize prices. In concert with its asset purchases and to further assist the labor market, the Fed committed to keeping interest rates low during the recovery. Those strategies accrue benefits directly to working and middle classes in the form of remarkably low unemployment rates, even as inflation remained below the Fed’s 2% target. In sum, it is likely that working-and middle-class Americans were made better-off with the Fed’s bond buying than without it.
Third, does Canada and its central bank offer an appropriate and superior model for managing a financial crisis and directing a recovery? True, Canada weathered parts of the global financial crisis better than the United States did. But overlooking Canada’s early 1990s fiscal and financial crisis may unduly brighten the analysis. And a recent run-up in Canadian house prices and lending look suspiciously similar to precrisis events in the United States. Over a longer period, per capita economic growth in Canada has not kept up with the United States, and the painful 1990s restructuring of its public sector came after years of living beyond its means.
As the authors note, Canada also rationalized its banking sector by enabling mergers that resulted in a handful of very large financial institutions. In the United States, both parties have pushed to downsize American banks. The key point is that the Fed—by design—does not shoulder blame for the shape of the banking system. As Jacobs and King remind us, banking systems are deeply rooted in each country’s political and institutional DNA. Canada’s parliamentary democracy gives enormous, unified power to the ruling party. Its more monolithic central bank—with monetary control vested in a more omnipotent governor—still answers to Ottawa. Overlooking the extent to which a legislature creates and governs its central bank risks losing sight of the long arc of political and economic history.
Fed Power joins a growing body of work that examines the myth of a politically independent Fed. Jacobs and King’s broad sweep of economic history and their deep dive into the 2007–8 crisis yield a provocative critique of the Fed and its recent, unconventional approach. To be sure, some readers may disagree with their conclusions about the extent and sources of the Fed’s policy biases. But the book opens important avenues for studying monetary politics and the Federal Reserve.
