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Monday, September 21, 2009

The Federal Reserve as Pay Czar?

It's hard to fathom that the Federal Reserve might soon get even more power than they already have but an idea being floated now will do just that.

Policies that set the pay for tens of thousands of bank employees nationwide would require approval from the Federal Reserve as part of a far-reaching proposal to rein in risk-taking at financial institutions.

The Fed's plan would, for the first time, inject government regulators deep into compensation decisions traditionally reserved for the banks' corporate boards and executives.

Under the proposal, the Fed could reject any compensation policies it believes encourage bank employees -- from chief executives, to traders, to loan officers -- to take too much risk.

Bureaucrats wouldn't set the pay of individuals, but would review and, if necessary, amend each bank's salary and bonus policies to make sure they don't create harmful incentives.

There are very few things more dangerous than the power that is being consolidated into the hands of the Federal Reserve. Right now, here are the proposals being floated that would ultimately give even more power to the Federal Reserve. First, the Federal Reserve may soon have regulatory power over all financial services companies rather than simply banks. The president wants to give the Federal Reserve the power to be a "systemic risk regulator". Now, they may also have power to regulate executive pay among banks. This is above and beyond its ability to create money, manipulate interest rates, and buying and selling trillions of dollars worth of securities.

It's hard to put into words how bad an idea this latest proposal is. One of the most important jobs of policy making is to manage the power of any given entity. It's vital that no entity become too powerful. Too much power always leads to all sorts of bad problems. At this point, simply creating money and manipulating interest rates gives the Federal Reserve too much power. As such, policy makers should be working on ways to limit its power. Instead, policy makers are showering the Federal Reserve with even more power. That's just a recipe for disaster.


Anonymous said...

its ability to create money, manipulate interest rates, and buying and selling trillions of dollars worth of securities.

These are all one and the same. The Fed buys or sells securities and credits or debits banks accounts thereby creating or destroying money. This is the tool they use* to set overnight rates to their target. I'm not sure why you refer to them separately.

That said, your point is correct. But I believe there are proposals for an 'audit' of the Fed, and Bloomberg has a lawsuit under the FOIA to get them to disclose info, so it's not clear their power will go unchecked.

*or it was prior to the crisis.

mike volpe said...

They are one and the same, though at times, they can do all three. The Fed has the power to create money. It will use that money to buy bonds. It also controls the Fed Funds Rate. So, those three can be different. My point, which you picked up on, is that the Fed has the power to do a lot.

There is a proposal to audit the fed but that's still just a proposal. This is as well. So, there is no power yet that has been diminished. Either way, it has too much power and this proposal will give them more.

Anonymous said...

"The legislation's ban on risky compensation would apply to any firm with more than $1 billion in assets, including bank holding companies, broker-dealers, credit unions, investment advisers and mortgage buyers Fannie Mae and Freddie Mac."

There is already a proposal to have the govt set pay in the financial sector --- even for firms which were NOT bailed out and have NEVER been bailed out (e.g. hedge funds). This is ridiculous, no matter which branch of govt is involved.