Bipartisan Group Calls for Further Fed Restrictions

by Norbert Michel, Heritage Foundation: Fifteen Members of Congress have come together to urge the Federal Reserve to further restrict its emergency lending authority, something the 2010 Dodd–Frank Act failed to adequately do.

The group of lawmakers—Republicans and Democrats from both chambers of Congress—rightfully pointed out:
If the [Fed] board’s emergency lending authority is left unchecked, it can once again be used to provide massive bailouts to large financial institutions without any congressional action.The fact that any Members of Congress are concerned with stopping these bailouts is a positive development for the long-term health of the U.S. economy. The Government Accountability Office reports that between December 2007 and July 2010, the Fed lent financial firms more than $16 trillion through its broad-based emergency programs.

Although Dodd–Frank purported to restrict these types of Federal Reserve loans, roughly half of the Fed’s emergency lending programs during the 2008 crisis would have been allowed had the Dodd–Frank changes been in place prior to the financial meltdown.

The bipartisan group also highlighted a key issue concerning these types of emergency/crisis loans: the lack of a clear distinction between firms that are insolvent and those that are “teetering on the edge of bankruptcy.”

The truth is that there is no purely objective way that the Fed—or any other regulator—can single out firms that are near bankruptcy. The best way to restrict the Fed’s emergency lending authority is to stop the Fed from making emergency loans in the first place.

As a rule, the government should not use public funds to bail out private firms. If, however, Members of Congress want to use taxpayer dollars to save troubled firms, they should do so transparently so that voters may hold them accountable. Doing so via the Fed should be completely disallowed, because it is indirect and lacks transparency.

The main purpose of a central bank is to conduct monetary policy, and this goal can be accomplished solely through open-market operations. If necessary, the Fed can supply emergency liquidity to the entire market by temporarily expanding its open-market operations, thus enabling private banks to expand lending as they see fit. Monetary policy does not require the Fed to lend to individual firms.
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Norbert Michel studies and writes about housing finance, including the reform of Fannie Mae and Freddie Mac, as The Heritage Foundation’s research fellow in financial regulations. Follow him (@norbertjmichel) on twitter.

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