There has been much constructive introspection in the course of the financial crisis ten-year mark, but also some troubling self-congratulation that bodes ill for policy intervention the next time around. In a victory lap earlier this month, Messrs. Bernanke, Geithner, and Paulson released op-eds and made speeches celebrating what they did over the dark nights of mid-September 2008 and bemoaning the fact that Congress then proved so ungrateful that their successors now cannot freely bail out the world’s biggest financial institutions. Missing from these pains is recognition that the chairman of the Fed, the president of the New York Fed, the Treasury Secretary, and all their friends in high places completely missed the build-up of risk and, in notable ways made it worse. They didn’t mean to do this, of course, but they did. If all they and their successors want now is better, bigger bail-out powers, we learned all too little at such great expense.
That the Fed and Treasury took a blind eye to the build-up of systemic risk is an established fact. Messrs. Bernanke and Paulson were telling Congress not to worry themselves with mortgage risk as late as 2007. One might say that they did so to avoid alarming the children, but their own actions at the time – see the Fed’s hands-off approach to predatory lending and the Treasury’s recommendations for “light-touch” rules – show that top federal policy-makers bought into widespread industry belief that, as Alan Greenspan memorably said, a “great moderation” had been crafted by dint of canny monetary and regulatory policy.
That was then. What awaits us now?
The Fed seems blissfully unaware of just how narrowly it escape from the 2008 crisis with what emergency-liquidity powers it and the FDIC still have under Title XI of the Dodd-Frank Act. Congress has demanded ever since that the Fed implement the law through a rule circumscribing its 13(3) powers and the Fed has just as stoutly resisted doing so. It took threats that started with the Yellen confirmation battle in 2013 and continuing to this day to get the Fed to reduce what little flexibility it has to do what it wants for whom it wants when it wants. That Congress means business was made clear as recently as earlier this month, when House FinServ reported H. R. 6741, legislation containing language along lines introduced earlier by Sen. Warren (D-MA) and others that goes so far as to make Fed emergency intervention virtually impossible. That’s of course too much of a limit – systemic risk can come from externalities no central bank can avert – but it’s dramatic proof that populists and progressives will have none of the new bail-out powers for which Messrs. Bernanke, Geithner, Paulson, and – as of last Wednesday – Powell pine.
What should be done? Instead of asking for powers they’ll never get, the Fed and Treasury should put their muscle into reforming the Bankruptcy Code to make market resolution a meaningful alternative to another round of big-bank or, now, a “shadow-bank” bail-out. Sure, the Fed and Treasury want the Code rewritten, but the Senate Judiciary Committee is taking this up only next week – way too late of course to do much of anything.
What if the Fed and Treasury had made this a priority instead of an also-ask? What if they and the FDIC had really built out Dodd-Frank’s orderly liquidation authority and resolution rules to make them an assured path for resolution, especially when risk comes from outside the biggest banks and the reach of increasingly potent living wills? What if global regulators had done more than issue “key attributes” about orderly resolution to tackle all the home-host country disputes that to this day doom cross-border resolution? Just this month, the Group of Thirty acknowledged that its members still have little confidence in the ability of regulators to confront a new systemic crisis. Ten years and counting, but all we’ve got to show for it are a lot of big banks named as GSIBs forced to don scarlet capital standards, but no roadmap in which a counterparty or citizen can have any confidence.