The St. Louis Fed has released a historical analysis of the Federal Reserve’s responses to financial crises. I find the whole thing interesting, but also a little irksome. The paper points out that “no banking panics occurred during the Fed’s first fifteen years, 1914-29, which suggested that the Fed had accomplished the founder’s objectives.”
Well, that’s good. But then came the unpleasantness known as the Great Depression. Don’t blame Wall Street or speculation or markets, blame the Fed:
The Federal Reserve Act did not provide an automatic, fool-proof mechanism for dealing with crises, as the founders had hoped. Instead, the Fed responded timidly to the banking panics and failures during 1930-33, as well as to large declines in the price level and output, and clearly failed to serve effectively as lender of last resort.
Well, I prefer Ben Bernanke’s more straightforward admission of guilt. As Bernanke said at a University of Chicago conference honoring Milton Friedman on his 90th birthday, “I would like to say to Milton and [collaborator Anna Schwartz]: Regarding the Great Depression, you’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again.”
But then the paper gets to the Great Recession and Financial Crisis:
At the onset of the crisis, the Federal Reserve responded to the rising strains in interbank funding markets with only minor modifications of its traditional tools for providing liquidity to financial markets. Monetary policy was eased swiftly, beginning in September 2007 with a reduction in the target federal funds rate of 50 basis points from 5.25 percent to 4.75 percent.
As the crisis deepened and the condition of interbank markets deteriorated further, the Federal Reserve established other programs to facilitate access by banks to central bank credit. The terms on the main discount window related program, the primary credit facility, were also progressively eased as the crisis deepened. The penalty on discount window loans, normally 100 basis points over the federal funds target rate, was cut to 25 basis points. Further, the maximum maturity of discount window loans was extended from overnight to 90 days and could be renewed at the discretion of the borrower.
Stop the tape. The St. Louis Fed paper misses something. Like the Fed’s 2008 blunders. As Atlanta Fed economist Robert Hetzel has noted, not only did the Fed leave rates alone between April 2008 and October 2008 as the economy deteriorated, but the FOMC “effectively tightened monetary policy in June by pushing up the expected path of the federal funds rate through the hawkish statements of its members. In May 2008, federal funds futures had been predicting the rate to remain at 2% through November. By mid-June, that forecast had risen to 2.5%.”
Just as with the Great Depression, the Fed blew it with the Great Recession and that needs to be acknowledged.