This is a lightly edited version of remarks made to the Conference of Federal Reserve Bank Chairmen and Deputy Chairmen in Washington, D. C., June 3, 2004. The author states that if the views expressed represent those of any Federal Reserve organization, it would be a fluke.
Thank you, Wes [Richmond Reserve Bank Chairman Wesley S. Williams Jr.], for that introduction.
My talk to you this morning is divided into three parts. In the first part of my talk, I thank Wes for that introduction, and that's the part you just heard. In the second part, I describe how my talk is organized, and that's the part you're listening to now. And in the third part I say a little something about Federal Reserve bank history, and that's the part you're about to hear.
I was startled to see on the agenda that I am supposed to talk about regionalism and autonomy, because that was not the invitation that was extended; that was not the invitation I accepted; and that is not the presentation I prepared, if prepared is the right word. But just in case that's the reason you traveled all the way to Washington, I'll give you a little Woodrow Wilson so you won't go home empty-handed. Wilson captured both regionalism and autonomy in one sentence when he said, "We have purposely scattered the regional reserve banks and shall be intensely disappointed if they do not exercise a very large measure of independence." If that quotation doesn't suit you, give me 24 hours; I feel sure I can come up with an offsetting quotation by Franklin Roosevelt to cancel Wilson's out.
Two weeks ago, on May 18, the Federal Reserve banks entered their 10th decade. You will notice that I have been allotted 15 minutes for my remarks. That works out to about 90 seconds a decade. A person does not have to be cynical or even very suspicious to conclude that the people in charge of scheduling this conference don't really want you to learn that much about Reserve bank history. In just a few minutes you might also be in a position to conclude that the reason they invited me to speak was to make sure that what little history you might manage to learn in 15 minutes will be very confusing.
Because my time is short, I am not going to start with stories. I am going to turn to the last page and start with what I think is the moral of those stories. To me the moral is: Don't let anybody's version of Federal Reserve history slow you down from doing in the 21st century what in your best judgment the Reserve bank for which you are responsible needs to have done. This moral comes from three simple points.
Three simple points
The first point is don't believe anything anybody tells you about Federal Reserve history, including me. The traditional stories are all a little bit true and a little bit false. Over time, many complicated events have gotten streamlined and simplified and grouped thematically by people with points of view they would like you to share. Very often when someone says he values history and institutional memory, he means, "Bring me a quotation or anecdote from a recognizable dead person that will provide rhetorical support for some policy position that I am currently defending." Practical, goal-oriented policymakers up to their [deleted] in alligators are naturally fond of history that helps them change other people's minds; it's rare they like history so well that might change their own minds. And that's OK, because you don't really want policymakers who are impractical or who forget what their goals are, but you need to take their versions of history with a grain of salt and make necessary adjustments for windage.
The second point is that when you start looking for those quotations and anecdotes, they are easy to find. They grow on trees. You can find historical support for almost any side of any argument, because in the history of the Federal Reserve (take this with a grain of salt, but I think it's true), in the history of the Federal Reserve, nobody ever got his way completely about anything that was really important. So it is child's play to find contradictory views from different historical participants about what a piece of legislation did and didn't do, what it was supposed to do and not supposed to do, what it means and doesn't mean, and how the Reserve banks should and shouldn't work. Newspapers, books and the Congressional Record are littered with passages about how the Federal Reserve is supposed to work that are impossible to reconcile with one another. Indeed, in the case of Carter Glass, who ought to be the most authoritative historical voice of all, if you pick the right years, you can find him contradicting himself.
In 1919, when, as Secretary of the Treasury, Glass was ex-officio chairman of the Federal Reserve Board, he got in an argument with Benjamin Strong, who was governor (we would now say president) of the New York Reserve bank. They argued about who had the whip hand on discount rates, and Glass went to the trouble of getting the Attorney General of the United States of America to issue an opinion that the Board was in charge. Then eight years later, when Glass was back in Congress, the Board tried to exercise that control and force a discount rate reduction on the Chicago directors, and Glass pitched a holy fit about it. In the history of the Federal Reserve, contradictory views grow on trees.
My third point is that as a way of harmonizing contradictory views, Congress often embraced vagueness on many important questions, leaving a lot to the imaginations of the men and women who have operated the Reserve System and a lot to negotiations among them. The history of the past 90 years is a history of strong personalities inventing and reinventing important aspects of the Federal Reserve and the relationship among its constituent parts. In this enterprise, congressional vagueness has been the reinventors' best friend. Indeed, the one time nobody stepped up to reinvent the Fed was in the Great Depression, and it would have been far better for our parents and grandparents if somebody had.
Those are my three simple points. I want to illustrate reinvention first, because it's clear that our dwindling check business requires the Reserve banks to reinvent things. The example of reinvention I choose is not a dramatic one, but it should interest this group because it is the reinvention of the office of Federal Reserve bank chairman.
Reinventing Reserve bank chairmen
How did you become outside directors? For over 20 years, Reserve bank chairmen were inside directors, full-time staff members of their Reserve banks. Then it changed; it changed all at once; and it changed at all 12 banks, but not because the law changed. The law added new stuff about presidents, but it left the old stuff about chairmen alone. What the Federal Reserve Act says today about Reserve bank chairmen is in every important respect the same thing, verbatim, that it said in 1913.
What does the law say about the qualifications and responsibilities of Reserve bank chairmen? (I'll give you a minute to think. Wes Williams and [St. Louis Reserve Bank Chairman] Walter Metcalfe know the answer, so if you need to, you can copy off them.)
- The chairman must be someone of tested banking experience.
(I have no idea what this means.)
- The chairman is selected by the Board of Governors from among the Class C directors.
- The chairman is the Federal Reserve Agent and the official local on-site representative of the Board of Governors; as such, he must maintain an office of the Board of Governors on the bank's premises and make reports to the Board of Governors.
- And for all these exertions, the Board of Governors sets his annual compensation.
That's what the law said in 1913 and, except for changing the name of the Federal Reserve Board to the Board of Governors and a trifling detail about the conduct of elections and adding a new report for the chairman to make, that's what it says today.
The law called for a Reserve bank chairman and said what he should do, in the very general and vague way I just described, but the law said absolutely nothing for two decades about a president or governor or chief operating officer. For its first 14 years, the dominant force and dominant intellect in the Federal Reserve was Benjamin Strong, the governor of the New York Reserve bank, but his position was not established by Congress; it was a Federal Reserve invention. Reserve bank governors were invented at a conference in Washington, I suppose like this one, of the Federal Reserve Board and the Reserve bank chairmen, meeting together between the time Reserve banks were chartered in the spring of 1914 and the time they opened for business in the fall.
For 20 years, we had full-time Reserve bank governors and full-time Reserve bank chairmen, who divided the work. That arrangement worked badly at many banks because people weren't quite sure who was responsible for what, or if they were sure, they were dissatisfied with their share. What's more, the guy who was supposedly subordinate, the guy who was supposed to carry out policies that the other guy made, got the higher salary, in one case double the salary.
The first Atlanta chairman wrote that relations were "pleasant and agreeable," but that was not true everywhere. Rivalries developed. I once heard that one governor was not on speaking terms with his chairman. They dealt with one another through intermediaries or by shooting memos back and forth (which actually might be a blessing if anybody gets serious about the history of the period and if we've saved those memos). It is also said that the president of the Richmond Reserve bank padlocked the chairman's office when the position became part-time and left the space vacant several years to advertise who was boss.
Along came Marriner Eccles at the beginning of Roosevelt's first term, as governor and then as chairman of the Federal Reserve Board. Next to Carter Glass, Marriner Eccles, after whom [Utah Sen.] Jake Garn had this building named, is our most important reinventor. (Also like Carter Glass, Marriner Eccles was something of a cuss, a willful and undiplomatic personality. It is said that Marriner Eccles could not tolerate any music except hymns and bagpipes. That might give you the picture.)
Marriner Eccles submitted a proposal to Congress, much of which became the Banking Act of 1935, that included consolidating Reserve bank chairman and governor into a single office, controlled by the Board of Governors, to eliminate the friction I have described and to save $400,000 a year. Congress deleted that part of the proposal, and it never became law. (Carter Glass said, inaccurately, that Congress did not leave enough of the Eccles bill with which to light a cigarette.)
But the Board of Governors still liked the idea of eliminating a full-time position even if Congress didn't, and it had a solution. There is a provision in the Federal Reserve Act—possibly you encounter it each year when you try to decide what your presidents and first vice presidents are worth to you—that gives the Board of Governors a veto over the salaries of everybody in your institution from the president to the guy who makes tuna fish sandwiches in your cafeteria, and the Board of course sets the chairmen's compensation directly. After the Board was reconstituted in 1936, it reduced the chairmen's salaries to a level that a family could not live on. And that, according to legend, is how you came to be outside directors and why you discharge so many of your duties through your presidents and other officers instead of doing them yourselves.
I tell that story as a small illustration of reinvention of the Federal Reserve by strong personalities, but it can also illustrate my first point, which is, if you remember, don't believe anybody's version of Federal Reserve history. I myself am not sure if the story I just told you is true. I read the story in a book and I like it a lot, but I have also read at least two different versions that portray the Board as far less high-handed and unilateral. One day, when checks and lawsuits disappear, which I mistakenly thought was supposed to have been the function of the millennium, I may have time to track down which version is correct.
Inventing research departments
Closely related to the reinvention of Reserve bank chairmen is the invention of the research and statistics functions at the Reserve banks. How is it legal for your Reserve bank to engage in the kinds of research it does? (When you get back to your banks, ask your research director that question. That could be fun. In my experience, academic economists are curious about almost everything except whether the things they do and the things they advise others to do are actually legal.)
Reserve banks have legal power to do three things. Reserve banks can do anything specifically listed in the Federal Reserve Act. Reserve banks can conduct a banking business within their geographical districts. And Reserve banks can do what is necessary or incidental to their banking business. I don't really care enough about this to get into an argument with anyone, but I will assert that a lot of the research we conduct and publish is not listed (explicitly or by fair implication), is not banking and is not necessary or incidental.
The formal legal justification, the reason Reserve banks first undertook research and statistics, was to meet the legal obligation of each Reserve bank chairman, not the Reserve bank but its chairman as Federal Reserve agent, to provide "regular reports" to the Federal Reserve Board. Reserve banks started hiring economists in 1918 to help their chairmen make regular reports on business and financial conditions. Before long these regular reports turned into regular publications. Typically in a Reserve bank the economists reported directly to the Reserve bank chairman, not to the governor. Indeed, more than one Reserve bank governor complained that he could not get any help from his chairman's research department.
Starting about 1924, the Federal Reserve Board tried to take control of the Reserve banks' research activities. They told the Reserve banks: Your research belongs to us; the reason you're supposed to be doing it is to report to us, but we don't like how much money you're spending on it; we don't like how you're duplicating each other's work; and frankly, some of the stuff you study we're just not that interested in.
The Board said: We don't want you to publish more frequently than monthly; we don't want you to go over eight pages; we don't want you to mail anything free to anybody except member banks and a few others; and we want to spike stories we
don't like. Some chairmen went along with that and some didn't. Some chairmen were interested in research and pushed it; some chairmen had other priorities.
The Board kept hectoring the banks about this almost up until World War II. More recently, the Board and Reserve banks have reached a modus vivendi that leaves the Reserve banks enormous research autonomy, but the Board continues to pay attention to coordination, quality, economy, and potential political or professional embarrassment. The historical point is that the chairmen of the Reserve banks essentially invented their research functions, which have grown into these vast, sophisticated, occasionally useful enterprises. But they've grown through invention, negotiation, reinvention and renegotiation, not through law. In law, they rest arguably on just half a sentence, just one slender independent clause that is 90 years old: "He (meaning you, the chairman and Federal Reserve agent) shall make regular reports to the Board of Governors of the Federal Reserve System. ... "
Form and function
Those are two very humble examples, but the result of almost a century of such inventiveness and negotiation is that we've constructed an edifice that doesn't look much like our building plans. We were set up by law in 1913 as specialized national banks, each Reserve bank unaffiliated with the other Reserve banks, organized along mutual lines in large part for the benefit of our members, to conduct banking operations in defined territories under a theory that needed currency adjustments would be an almost automatic result of rediscounting our members' commercial paper.
Indeed, H. Parker Willis, who did most of the drafting of the Federal Reserve Act, said his initial idea was a very simple amendment to the National Bank Act to establish this new category of national banks with the Comptroller of the Currency as their supervisor, and the main reason they set up the Board instead, Willis claimed, was that too many members of Congress disliked the man who was Comptroller at the time.
There were few differences between national banks and Reserve banks back in 1914. We both got 20-year charters from the Comptroller of the Currency. We could establish branch offices; they couldn't. They could serve the general public; we couldn't. Our dividends were fixed; theirs were limited. And the government controlled three of our director appointments and held the reversionary interest in our assets.
Since then, we've become more governmental, and national banks have become less so. National banks lost the privilege of issuing currency, but we've kept ours. National banks lost their privileged access to federal courts; we did, too, but after a brief intermission, we got ours back. National banks lost their exemption from state taxation; we're still exempt. And national banks gained almost all the financial service powers of state banks.
On our side, we openly speak of ourselves as the central bank of the United States, which just 25 years ago Reserve bank lawyers were careful not to do. We examine institutions now whose condition we have no corporate interest in, institutions that can't borrow from us; and we examine for consumer compliance and other things our lending function, even if it were not moribund, would not need to know. And it's probably been decades since any Reserve bank dared hold a shareholders' meeting.
In short, we've drifted far from our moorings, but our organic statute has not absorbed all of these changes. Our formal legislated structure still describes 12 unaffiliated specialized national banks run by their directors. The two major organizational amendments to our statute, the Banking Act of 1935 and the Monetary Control Act of 1980, changed our functions more than our form.
Skipping over some interim steps, the Banking Act of 1935 took investment decisions away from the Reserve banks and turned them over to the Federal Open Market Committee; gave the Board a veto over the initial selection of the presidents and a second shot at them every five years; and required directors to revisit their discount rate decisions, and subject them to the Board of Governors' review, every 14 days. The Monetary Control Act eliminated most distinctions between member and nonmember depositary institutions, functionally dispelling any real sense of Reserve banks as mutual organizations, and gave the Board of Governors explicit control over parts of the Reserve banks' budgets.
Today our legislated form is still largely private, but our functions are increasingly public. This conflict between form and function is never far from the surface. Sampling judicial opinions, we find one federal court case saying: "[F]ederal reserve banks ... are plainly and predominantly fiscal arms of the federal government. Their interests seem indistinguishable from those of the sovereign. ..." Within five years, we find a different federal court saying: "... Congress intended the regional Reserve Banks to be non-governmental entities, separate and distinct from the United States, entities owned by the commercial banks in the respective regions and designed to function essentially for private purposes. ... The Reserve Banks were not designed to be primarily arms or instrumentalities of the government." (My point here is that these two facially contrary viewpoints can both be right, because one focuses on function and the other focuses on design.) More recently, when Justice Blackmun in a footnote refused to rule out the possibility that the St. Louis Reserve bank might for some purposes be an actual department of the federal government, Justice Scalia said, "It is ... impossible to respond to such random argumentation. ..."
These conflicts and uncertainties between form and function that our history hands us have long been a source of deep existential frustration for almost everybody who gets involved with the management or oversight of Reserve banks, but I hope you will not let that frustration keep you from reinventing things as your predecessors did; reinventing things within the law and with a due respect for and in cooperation with others who have overlapping responsibilities in our strange, pluralistic structure (what Wes at breakfast this morning called our clumsy structure); reinventing things your banks need to have reinvented to prosper in the 21st century.