Policy Workshop: The Future Role of Central Banking Policy: Urgent and Precedent-Setting Next Steps

The Future Role of Central Banking Policy: Urgent and Precedent-Setting Next Steps
Policy Workshop — July 22, 2008

OVERVIEW

Severe stress in the financial markets has given rise to a host of unprecedented actions by the Federal Reserve, including the Bear Stearns intervention, new lending facilities for primary dealers, and a decision to authorize the Fed to lend to Fannie Mae and Freddie Mac should such lending become necessary. These developments raise important policy questions about the future of central banking policy. Many of these questions are best considered as part of an overhaul of the complex regulatory structure of the U.S. and global financial systems, which will take time. However, there are also urgent policy issues to be addressed in the weeks and months ahead. The Fed must decide whether to extend the primary dealer credit facility it established in March and whether to make that facility permanent. There is also a pressing need to define as clearly as possible the circumstances in which the Fed would intervene again to prevent the failure of a financial institution, considering in particular whether it is too big or too inter-connected to fail. Further, policymakers face questions about how to respond to challenges facing Fannie Mae and Freddie Mac. In addition to their urgency, these decisions will likely affect the course of the larger regulatory reform in the future. Indeed, they are the first steps toward reform and will set precedents.

This policy workshop brought together economic, financial, and legal experts to present and discuss research on these immediate policy issues, with the purpose of considering alternative policy recommendations. The workshop was co-sponsored by:

• The Working Group on Economic Policy, Hoover Institution;
• The Rock Center on Corporate Governance, Stanford Law School; and
• Stanford Graduate School of Business.

Based on the discussions, the organizers prepared a summary of the workshop's findings, preliminary conclusions, and suggestions for additional research (see below).

WORKSHOP MATERIALS: AGENDA, PRESENTATIONS, AND SLIDES

• Detailed agenda
• List of participants
• Biographies of speakers and chairs

Opening Address

• George P. Shultz, Hoover Institution, "An Ounce of Prevention is Worth a Pound of Cure"

Session I: Financial Market Functioning and the Effectiveness of the New Credit Facilities

• Darrel Duffie, Stanford Graduate School of Business, "Systemic Credit Risk Transfer"
• John Williams, San Francisco Fed, "On the Effectiveness of the New Facilities"
• Jamie McAndrews, New York Fed, "Market Stability and the Fed's New Credit Facilities"

Session II: Policy Interventions and Lessons Learned from the Fannie Mae, Freddie Mac, and Bear Stearns Crises

• Peter Wallison, American Enterprise Institute
  • "Playing Politics with Financial Security"
  • "For Financial Regulation, the Era of Big Government Really Is Over"
  • "Bear Facts: The Case for Tighter Regulation of Securities Firms"
• John Gunn, Dodge & Cox, Slides on Fannie and Freddie
• Richard Herring, "A Brief Summary of the Collapse of Drexel Burnham Lambert"

Session III: Are There Alternatives to Fed Intervention beyond Depository Institutions?

• Frank Edwards, Columbia University, "Public Policy Responses to Distressed Non-Bank Financial Institutions"
• Richard Herring, Wharton School of Business, Slides on Bridge Institutions

Session IV: Is New Regulation or New Legislation Needed to Extend the Temporary Facilities?

• Rodgin Cohen, Sullivan & Cromwell
  • Outline of Basic Premises
  • Materials on statutory provisions
  • Materials on Bear Stearns
  • Materials on the Primary Dealer Credit Facility
  • Materials on the Term Securities Lending Facility
  • Materials on the Term Auction Facility

Session V: Clarifying the Criteria for Federal Reserve Intervention

• Joe Grundfest, Stanford Law School, "The Big Put: The Pervasive Nature of Governmental Insurance and Implications for Financial Markets"
• John B. Taylor, Hoover Institution & Stanford University, "Toward a New Framework for Exceptional Access"

Conclusion: Summary of Proceedings and Preliminary Conclusions

• John D. Ciorciari, "The Credit Crunch and Future Role of the Fed"

BACKGROUND READINGS

• Ben S. Bernanke, "Financial Regulation and Financial Stability," speech at the FDIC Forum on Mortgage Lending for Low and Moderate Income Households, Arlington, Virginia, July 8, 2008
• Stephen G. Cecchetti, "Monetary Policy and the Financial Crisis of 2007-08," CEPR Policy Insight No, 21, April 2008
• Federal Reserve Press Release on GSEs, July 13, 2008
• Richard Herring, "International Financial Conglomerates: Implications for Bank Insolvency Regimes," Wharton School, University of Pennsylvania, May 2003
• Jeffrey M. Lacker, "Financial Stability and Central Banks," Remarks at the European Economics and Financial Centre, June 5, 2008
• James McAndrews, Asani Sarkar, and Zhenyu Wang, "The Effect of the Term Auction Facility on the London Inter-Bank Rate," Federal Reserve Bank of New York, May 1, 2008
• "Paulson Announces GSE Initiatives," Treasury Department Press Release, July 13, 2008
• The President's Working Group on Financial Markets, "Policy Statement on Financial Market Developments," March 2008
• Gary H. Stern and Ron J. Feldman, "Managing the Expanded Safety Net," The Region (Federal Reserve Bank of Minneapolis), Annual Report Issue, 2007–08
• John B. Taylor, "Housing and Monetary Policy," Speech at the Kansas City Fed, April 2008
• John Taylor and John Williams, "A Black Swan in the Money Market," San Francisco Fed Working Paper 2008-04, April 2008
• Peter Wallison, "There is No Reason to Panic," Wall Street Journal, July 14, 2008