How much is too much when the Federal Reserve seems to take on an activist’s role in fulfilling its mandate to promote maximum employment, ensure price stability, and moderate long-term interest rates?
That question has assumed fresh importance in the context of the recent controversy over the Federal Reserve Bank of Minneapolis offering formal support for an amendment to Minnesota’s state constitution. The amendment aims to guarantee a fundamental right to quality public education for all children in the state. The Minneapolis Fed is among a dozen regional branches that operate under the supervision of the Federal Reserve.
“It’s incredibly important as a society to try and arrest the onset of activism and politics at and around the central bank, because it may well set us on a path of tremendous growth of the role of the central bank in our society,” Wharton professor of legal studies and business ethics Christina Parajon Skinner said on the Wharton Business Daily radio show that airs on SiriusXM. (Listen to the full podcast above.) “And ultimately, we may wind up in a place we don’t like with so much power consolidated in the Federal Reserve and within the discretionary judgment of Federal Reserve Bank leaders, [which] may be very difficult to ultimately unwind or undo.”
In a letter, Sen. Pat Toomey (R., Pa.) accused Neel Kashkari, president and CEO of the Minneapolis Fed, of inappropriately using Fed resources to support the so-called Page amendment. (It is named for former Minnesota Supreme Court Justice Alan Page, who partnered with the Minnesota Fed in a study on education gaps in the state.) “This amendment is highly political, as it wades into an ongoing debate about whether government-run school systems are preferable to parental choice in education,” Toomey wrote.
According to a Wall Street Journal report, Fed officials have said their research work (leading up to the Page amendment) “helps them better understand the economy and more effectively fulfill the mandates given to them by Congress.”
Those arguments don’t convince Skinner. A large portion of Skinner’s recent work has been “pushing back against the specter of a less independent Fed brought about by pressure on the Fed as an institution to pursue goals that are outside of its statutory responsibilities, [or] beyond its mandate.”
“The Fed is not meant to be the Swiss Army knife of all important economic issues of the day.” — Christina Parajon Skinner
In an article Skinner wrote for the Duke Law Journal, she examined how the Fed’s footprint in financial markets has enlarged beyond its historic purview. “While activism may be expedient in the near term, there are long-term social costs,” she wrote. Her article presented a framework for recognizing and identifying the problems with central bank activism. “Activism undermines the legitimacy of central bank authority, erodes central bank political independence, and ultimately renders a weaker central bank,” she noted.
Following are highlights from Skinner’s interview with Wharton Business Daily.
‘Activism’ in the context of the Fed’s actions:
We’ve been thinking about activism in terms of when the Fed, or any central bank for that matter, retrofits its policy tools to address new problems, which the central bank determines to be socially and economically important, but which Congress or the relevant legislature has not specifically asked the central bank to do through statute.
Activism for one central bank is not necessarily activism for another. It depends on what a legislature has asked the central bank to do in its mandate and whether the legal framework has given the executive branch, for example, the authority to shape a role for the central bank.
Taking a cautionary stance toward activism is not the same as rejecting the need for central banks to adapt to new circumstances. [For instance], banks routinely face cyber intrusions of their systems, and there’s a discernible potential for cyber-attacks to dismantle banks’ payment systems, or to result in a faster loss of customer data (imminently). Fed supervisors can and have adapted cyber risk into their study of financial stability and firm-level operational risk.
Climate change might be a different matter. There’s much more uncertainty about the path of climate, the financial system’s contribution to it, the ideal pace of transition to a low carbon economy, tradeoffs involved in that transition, and what the role of the state relative to the private sector should be in transition. These are all thorny political questions that need to be, in the first instance, sorted out — to be decided by democratically responsive institutions like Congress.
Why some see a need for Fed activism:
There’s dissatisfaction in some quarters between the pace perhaps at which Congress is acting and the desire to have certain policy impacts more immediately. I often hear this refrain that Congress is gridlocked, [and that is] used as an excuse or justification for the Fed to again act beyond the limit of its legislative authority to meet a perceived emergency.
My response to that is Congressional inertia is a feature, not a bug, of our government, as the framers of the Constitution designed it. Congress can’t turn on a dime in response to the public’s passions or interests on a particular day. Congress’s deliberative nature, combined with our system of checks and balances, ensures the Fed won’t be given formal goals through statute until society is very well settled on them.
“Congressional inertia is a feature, not a bug, of our government as the framers of the Constitution designed it.” — Christina Parajon Skinner
The Fed is being pushed and pulled in a lot of different directions from both outside of the Fed and from inside, and even ironically from Congress itself. In some respects, the CARES Act, which was enacted during the height of the COVID crisis, was maybe a moment in time in which it looked like Congress might be using the Fed as a bit of a piggy bank, pushing it into political lending, but without really clarifying the Fed’s role in its formal constitutive statute in the Federal Reserve Act.
It is problematic when society has a false impression of the limits, the power, the capacity, and the authority of the Federal Reserve. The Fed is not meant to be the Swiss Army knife of all important economic issues of the day. It’s important for central banks to continue to defer to the democratically responsive institutions. And it’s important that the public realize the boundaries of what the Fed can and cannot do.
The distinction between research and advocacy:
A lot depends on balance and judgment. Certainly, we want to have a research function at our central bank that is looking forward, innovative, and cutting edge. But to what degree, with what tone, and what level of analysis versus advocacy are important questions. [Where] do we draw the line?
We’d probably say that it isn’t the Fed’s job to prevent economic fallout from a potential nuclear war or to deal with trade wars or immigration issues. The same goes for other politically charged topics about which there is no clear social consensus, let alone a statutory instruction from Congress to the Fed.
Of course, there is a difference between private life and one’s public role, but there is this norm against political involvement that’s so ingrained in central banking culture that there are even limits on what central bankers can do in their private lives. It’s not about whether the issue itself is important or not. It’s about whether this is the democratically and legally appropriate role for the central bank to have.
There are a number of Fed reformers that would do away with the [regional] Reserve Banks, to lessen their independence from the board, or to reduce their number. I continue to be in favor of the existing structure for various reasons, but I do think that because the Reserve Banks are playing such an important role in communicating with the public and also in driving momentum behind Fed policy, it’s important that they also continue to work hard to preserve the independence and the apolitical nature of this system, because the public will continue to get an impression — to take cues from — the Reserve Banks about the role of the Fed in society and in our economy.
Protecting the Fed’s brand:
Historically, for reasons of credibility for the Fed’s ability to transmit policy, and for its policy decisions to have their optimal intended effect on the economy, the Fed has been insulated in its decision-making from pressures from the political branches and the presidency in particular, and from general popular forces. So the brand, so to speak, is the credibility of the Federal Reserve, which in turn gives it the power and the authority to transmit its policy decisions and to impact the economy.