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Message from the President on the Supervisory Role of the Federal Reserve Banks

Message sent to Ninth District Senators

Narayana Kocherlakota - President

Published May 3, 2010

As its name suggests, our central bank in the United States is an explicitly federalist system. At any time, four non-New York presidents vote on the determination of monetary policy. Their input means that the Federal Open Market Committee is deliberately structured so that its decision-making is grounded in regional information, interests, and ideas. In this way, the Federal Reserve System is a system designed to respond to the concerns of Main Street.

The Federal Reserve System currently supervises and regulates banks with state charters that are members of the Federal Reserve System. It also supervises and regulates all bank holding companies. The bill approved by the Senate Banking Committee alters these supervisory powers. It restricts the Fed’s role in supervision and regulation to bank holding companies with more than $50 billion in assets. In my opinion, this portion of the bill will significantly undercut the influence of Main Street on the determination of monetary policy. It is a major public policy mistake.

As I said, when I go to the FOMC every six to eight weeks, my contributions to its deliberations are influenced by regional economic conditions in the Ninth District. My understanding of those conditions depends in a substantial way on supervisory information from smaller financial institutions. As supervisors, the presidents of Reserve Banks are all very much aware that many small banks currently face significant challenges. The problems in small banks mean that many small businesses around the country are concerned about credit access. Small businesses are a valuable source of job creation, and ensuring maximal employment is one of the two jobs of the FOMC. It follows that the problems among small banks have important implications for how we, the members of the FOMC, think about the nature and speed of the recovery, and how we should set monetary policy.

I should emphasize the importance of the flow of information from bank holding companies. State member banks tend to be especially small—generally under $1 billion of assets. In contrast, bank holding companies can take the form of intermediate-sized institutions with regional scope. The supervisory information from a single institution of this kind provides a panoramic look at the ins and outs of bank lending and consumer activities within our district and beyond. It is exactly this kind of flow of information that lies at the heart of the federalist nature of the Federal Reserve System.

This connection between supervision and monetary policy means that during the past six months since I became president, my supervisory team has been extremely helpful to me as a monetary policymaker.  In part, their role is to provide information about banking conditions in the district. It is possible that those numbers could come from elsewhere, although I think that we have seen in many settings that interagency sharing of information is fraught with a number of difficulties, especially during times of stress. In any event, my supervisory staff does a lot more than provide me with numbers. They also provide the way to understand and interpret the information, given their experience and analytical tools.

In my view, a Fed without its current supervisory powers will be missing one of its main windows into local business conditions. The result will be that monetary policy will end up being shaped much less by Main Street, and much more by Wall Street.

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