A decade or so ago the Federal Reserve was riding high. In the midst of what was called the “Great Moderation,” a 20-year run during which inflation was under control and two quite mild recessions graced us with their fleeting presence, things were looking good for the Fed. The tables had been turned on the stagflation of the 1970s and the Fed was getting much of the credit.

In a speech on this phenomenon titled with the same moniker as the period itself, then-governor Ben Bernanke of the Federal Reserve extolled his colleagues, gushing that their conduct of monetary policy, in contrast to the bleak memories of the 1970s, “makes me optimistic for the future.” Overall there was little public consideration or appetite for revisiting the core idea of deference to the Fed on its management of the economy and the financial system.

What a difference a decade makes.

The Power and Independence of the Federal Reserve is a timely primer on how the Federal Reserve has evolved in its structure and functions in its century of existence. The book is timely because all manner of commenters—some qualified, others not—have provided a range of views since the onset of the financial crisis on: (1) why the Fed needs additional powers, or why it does not need to exist at all; (2) why the Fed needs to reduce its dual mandate of price stability and low unemployment to a single mandate of price stability, or why it needs to expand its mandate to include financial stability; or (3) why the Fed needs to go through a regular policy audit of monetary policy by the Government Accountability Office, or why it can get by with its current financial statement audit and other data releases.

Peter Conti-Brown is an assistant professor of legal studies and business ethics at the University of Pennsylvania’s Wharton School. He has also held positions as a fellow at Stanford Law and in the history department at Princeton, as well as at a law firm and as a law clerk. He has never worked at the Fed or one of the other financial agencies, or at a commercial bank for that matter. But he just seems genuinely fascinated with how this strange animal known as “the Fed” works in practice and he has apparently dedicated a large portion of the last five years thinking about how it has evolved over time and if it indeed works well overall. Conti-Brown highlights the dearth of quality legal and historical scholarship on the Fed (beyond the point of its creation) and he intends to fill that void.

Independence for whom and from what? / As implied by the title, the focus of Conti-Brown’s book is on how the Fed’s Byzantine structure affects its power and independence. He uses a generalized definition of power to mean simple influence on the global financial system. He then cobbles together, based on his review of the literature, a very Fed-specific definition of independence as the “separation, by statute, of the central bankers (specifically the Fed chair) and the politicians (specifically the president) for purposes of maintaining low inflation.”

Conti-Brown puts the definition of independence in the context of the blended metaphors of the “Ulysses/​punch bowl view of Fed Independence,” to which he refers often throughout the book. Ulysses is a metaphor for a system where “we write central banking laws that lash us (and our politicians) to the mast and stuff beeswax in the ears of … technocratic central bankers [who] guide the ship of the economy to the land of prosperity and low inflation.” The punch bowl refers to the oft-told quote of former Fed chairman William McChesney Martin of how central bankers are “in the position of chaperone who has ordered the punch bowl removed just when the party was really warming up.” Conti-Brown claims that this widely held view of the Fed in fact “doesn’t work” and is actually “wrong,” which leads into the substance of his analysis of the Fed’s structure and history. However, Conti-Brown tips his hand that he judges that the Fed ultimately “did the right thing” during the last decade’s financial crisis when he states (without much supporting detail), “As we all saw in the 2008 financial crisis, policy failures and triumphs within the Federal Reserve stirred financial havoc but likely spared us from financial cataclysm.”

Covering all the bases / Conti-Brown’s historical and legal analysis of the Fed largely breaks down into four major questions (which by the way do not precisely cross-walk to the four parts of The Power and Independence of the Federal Reserve):

  • “How is the Fed governed?” traces the evolution of the governance through what he calls the “three foundings of the Federal Reserve” in 1913 (Federal Reserve Act), in 1935 (Banking Act of 1935), and 1951 (Fed-Treasury Accord). Those developments evolved the Fed from the “institutional chaos” of its early days to its current position of pursuing “institutionally separate” sets of economic and monetary policies. He applies legal scrutiny to what he calls the “unconstitutional” Federal Reserve Banks.
  • “What functions does the Fed perform?” contemplates the strange brew of technical functions the Fed is responsible for from monetary policy, to lender, to supervisor and regulator.
  • “What people at the Fed have stood out over time and influenced its development?” delves not only into the specialists who comprise the leadership, but also the economists, lawyers, and international specialists. It also takes on case studies of the expected comparisons of major chairmen of the Fed: the Martins, the Volckers and the Greenspans that the man on the street is familiar with. But it also scrutinizes the Tarullos, the Alvarezes and the Blinders, names that are mostly just familiar to hard-core, Fed-obsessed geeks.
  • “What major interactions does the Fed have outside its walls?” scrutinizes the Fed’s relationship with the president as implied by the Fed-specific definition of independence, and also Congress and bankers (including international banks and central banks). This includes a thoughtful section on regulatory capture at the Federal Reserve Bank of New York.

What he gets wrong / Near the end of the book, Conti-Brown advances case studies to apply his detailed framework for the Fed. He turns to an assessment of two current proposed legislative amendments to the Federal Reserve Act: a policy audit of monetary policy (“Audit the Fed”) and a mandate for a rules-based methodology for monetary policy. Conti-Brown concludes that both are unnecessary. He starts off by making an excellent case to justify a policy audit, one that I have advanced myself:

The public audit part of the proposal is consistent with an essential component of this book’s argument, that we cannot understand what the Fed is, what it does, and who on the outside influences Fed behavior without knowing more about how the Fed operates.

So far so good. He then turns the discussion on its head and ultimately concludes that the audit effort is “motivated by a desire to punish specific Fed actions” and therefore is not a good idea. Where did the valid concerns about making the Fed more transparent go in this analysis? His argument is not convincing.

The second proposed legislative amendment that Conti-Brown assesses is the simple idea of requiring the Fed to adopt a rule to guide its implementation of monetary policy. This is as opposed to the current practice of vesting plenary discretion in the Fed to conduct monetary policy as the voting members see fit, unhinged from a logical, consistent monetary rule. Based on what I know about the legislative proposals on Capitol Hill (primarily sponsored by House Financial Services Committee Chairman Jeb Hensarling), Conti-Brown misstates the proposed legislation when he says that the “rule selected and written into the Federal Reserve Act is the so-called Taylor Rule.” In fact, Hensarling in multiple press releases has explained that there is no such mandate that the Taylor Rule be used, that the rule would be “of the Fed’s own choosing with the power to amend it or deviate from it at the Fed’s own choosing.”

I should also point out that Conti-Brown makes a few factual mistakes in the book—mostly mistakes your typical policy reader would not catch. For example, he speaks of Continental Illinois and the unprecedented $3.6 billion bailout provided to it in 1984, then states, “It wasn’t enough; the bank failed anyway.” Advocates of bailouts called Continental “too big to fail” for a reason. The bailout meant it did not ultimately fail and it lived on to become part of Bank of America in the early 1990s. Additionally, he states that the last decade’s financial crisis was focused in the “uninsured investment banks, insurance companies, money market funds, and other uninsured financial institutions” because they lacked deposit insurance, which mitigates such panics. Yet he fails to explain why massive Citibank—a subsidiary of Citigroup, which is a Fed-regulated entity—had a run on its deposits, notwithstanding the fact that it was a good old-fashioned commercial bank with FDIC insurance. But misstatements and omissions like these are few and far between and he mostly gets his facts right in this detailed analysis of Fed operations.

Conclusion / Despite these stumbles that this Fed critic latches onto, Conti-Brown’s book provides a thorough history and legal analysis. I agree with his characterization that it fills a large void in the literature. My favorite find that Conti-Brown mined as part of his research is a 1914 quote from Sen. Carter Glass about how the Fed would not issue “fiat money”:

Fiat money is an irredeemable paper money with no specie basis, with no gold reserve, but the value of which depends solely upon the taxing power of the Government emitting it. This Federal Reserve Note has 40 percent gold reserve behind it, has 100 percent short-term, gilt-edge commercial paper behind it.

I think we know how Federal Reserve Notes “evolved” in the ensuing century.