The Alchemists: Three Central Bankers and a World on Fire (26 page)

“I just lent $10,000 to a bank in your district last night,” Fisher said. The congressman was startled—he had no idea that the Fed was so deeply involved in the routine operations of local banks.

“Would you have wanted to be involved in that decision?” Fisher asked. “Because effectively, if you are going to do what you signed on to do with the Ron Paul bill, you are going to be involved in that decision and making monetary policy.”

•   •   •

I
t was an unusually snowy winter in Washington, a city consistently unable to deal with even a few inches of the stuff. When nearly three feet fell at Dulles International Airport on February 5 and 6, 2010, the federal government closed for days—“Snowmageddon” became the popular name for the storm.

The shutdown created a convenient opportunity for the newly confirmed Bernanke and his closest advisers to think through their strategy in the final push for financial reform legislation. With snow still on the ground and no one but a few security guards at work in the Eccles Building, Bernanke gathered together Don Kohn, the vice chair of the Fed Board of Governors; Kevin Warsh, a Fed governor who frequently acted as Bernanke’s liaison to Republican politicians and Wall Street CEOs; Scott Alvarez, the Fed’s chief lawyer; Michelle Smith, the Fed’s communications chief; and Robertson.

The attendees started by discussing the core principles and goals of the Fed. They weighed the merits of being a more specialized agency focused on monetary policy and the financial plumbing of the big banks versus having a broader role overseeing nearly every bank in the country and protecting consumers. On one hand, a more targeted agency could be more effective. On the other, Bernanke and his advisers believed, the Fed was already better at doing its assigned tasks than most bureaucracies. It attracted high-quality staffers and was well run, which a new agency might not be.

What mattered, and what could be given up without much problem? The first priority, they concluded, was keeping political independence in their monetary policies. Audit the Fed needed to be fought at all costs.

The agency needed to keep oversight of the biggest banks in order to carry out monetary policy effectively and make sure the financial system was working. It was becoming clear that the financial reform being passed would place greater expectations on the Fed to guarantee financial stability, and it needed to regulate the likes of Citigroup and Goldman Sachs to be able to do that. The Fed also needed to keep the oversight of small banks for a few reasons, Bernanke’s inner circle agreed: to have insight into a sector that was, in the aggregate, a major driver of U.S. economic activity, but also to maintain the ballast that comes from the Fed system having a vivid presence across the United States. Bernanke and his associates were more willing to give up its role as a regulator protecting consumers. That was never a core function of the Fed, and Bernanke’s line to Congress became, in effect: If you choose to leave it with us, we’ll carry out the responsibilities better than in the past, but if you want to take it away from us, that’s your prerogative. The good news that snowy day in Washington was that, on the things that really mattered to the Fed, the tide seemed to be shifting in its favor.

For all the occasional distrust between Fed leaders in Washington and at the reserve banks, by this crucial period in the first months of 2010, the reserve bank presidents were becoming strong allies, each with something to offer the other. Bernanke and the Fed leaders in Washington had the inside game, with their relationships with Geithner and House and Senate leaders. But the reserve bank presidents had, in many cases, relationships with a wide range of members of Congress from across the United States—along with experience explaining financial concepts to people who aren’t specialists.

As time passed, more lawmakers who weren’t normally attuned to financial regulation started to focus on what would become the Dodd-Frank Act. And they often turned to their reserve bank presidents to help understand the issues. Robertson’s staff even arranged events at the Fed’s headquarters in Washington in which reserve bank presidents would invite congressional staff from their districts to come for hours of briefings.

Ironically, some of the sources of tension between the board and the reserve banks at times proved an asset.

Hoenig gave speeches assailing bailouts and the culture of too big to fail, implicitly criticizing the Fed’s crisis-era decisions. As if trying to atone for his acquiescence to the low-interest-rate policies of the mid-2000s that may have helped stoke the crisis, he dissented from the Fed’s monetary policy decisions at each meeting in 2010, objecting to the central bank’s promise to keep interest rates low for an “extended period.”

It may have irritated some of his Fed colleagues, but it also strengthened his credibility with many of the legislators who would decide the fate of the Fed. If you’re annoyed by what the Fed has done over the past few years, so am I, his actions suggested to lawmakers. But the way you’re responding is counterproductive.

Hoenig also went after a proposal meant to bring more democracy to the reserve banks by making the chairmen of their boards of directors subject to Senate confirmation. He and his reserve bank colleagues viewed this as an increase of political control over an institution that already had plenty—and as a consequence of decisions made in Washington and New York that had nothing to do with the regional banks.

The New York Fed, they thought, was particularly responsible. Stephen Friedman, a former Goldman Sachs chief executive, had been chairman of the New York Fed at the same time he was serving on Goldman’s board. He was allowed to remain in both roles after Goldman elected to put itself under the Fed’s regulatory umbrella in September 2008, and even received a waiver from New York Fed lawyers allowing him to buy more shares of Goldman at a time when the New York Fed’s lending programs were helping to prop up the investment bank. Friedman resigned his chairmanship in May 2009, after his conflicts of interest came to light in the
Wall Street Journal
. But in the view of many reserve bank presidents, the damage to the reputation of the entire Federal Reserve System had already been done.

“That’s what really drives me crazy,” said Hoenig. “This exemption is made for a guy from Goldman Sachs, and suddenly the bankers in America all across the country are now villains. The bankers on our board from a little town in Nebraska and Denver, Colorado, are saying, ‘What the heck happened?’”

As lobbying by the reserve bank presidents and Cam Fine’s Independent Community Bankers of America began to make inroads, Dodd’s staff was working toward a new compromise: The Fed would still regulate the more than five thousand “bank holding companies” nationwide, but it would no longer oversee the roughly nine hundred state-chartered banks.

Hoenig and Fisher pushed Kay Bailey Hutchison, a Republican senator from Texas, to take the lead on amending Dodd’s legislation to make it more Fed-friendly. Fisher and Hutchison had run against each other for the Senate in 1994, an ill-fated venture into electoral politics for Fisher that predated his career as a central banker. In the incestuous world of Texas politics, they’d been friends before the race, and they remained friends after. But there was more than common history behind Hutchison’s decision to become the standard-bearer for small-bank regulation by the Fed, according to Fine.

“We have a lot of community banks in Texas,” he said. “And she was running for governor.”

Hutchison’s staff drafted an amendment that would undo the bill’s last major remnants of the Fuck the Fed strategy. Banks with less than $50 billion in assets, instead of being shunted over to the FDIC and state regulators, would remain under the umbrella of the reserve banks in Dallas and Kansas City and beyond. Hutchison had a reputation as one of the quieter members of the Senate, neither the creator of grand bargains nor a practitioner of overheated rhetoric. But on this issue, whatever mix of political ambition and personal loyalties drove Hutchison to take up the cause, she pursued it with abandon, making her case with language very similar to that of Fisher, Hoenig, and the IBCA: We must prevent the Fed from becoming a creature only of the biggest banks.

On May 5, Hoenig, Jeffrey Lacker of the Richmond Fed, Charles Plosser of the Philadelphia Fed, and Narayana Kocherlakota of the Minneapolis Fed took seats in a hearing room in the Russell Senate Office Building. This would be a closed event, with only members of Congress and their staffs allowed in. With no cameras rolling, the usual bloviation was unnecessary; this session was meant for legislators to ask questions to which they actually wanted to know the answers. Around two dozen lawmakers from both parties and both houses of Congress came to the event, which was put on by the Joint Economic Committee and scheduled over the reservations of the Fed Board of Governors in Washington.

Over nearly ninety minutes, with the Capitol Hill press corps huddled just outside the door, members of Congress asked one question after another, apparently genuinely curious about what the reserve banks do and why it matters. Their tone was warm and friendly, free of the vicious anger that had characterized discussions of the Fed over the past year.

The message, the reserve bank presidents concluded, had finally gotten through.

•   •   •

A
udit the Fed may have passed overwhelmingly in the House, but in the Senate finance reform bill that Chris Dodd put forward, it was nowhere to be found. Bernie Sanders wanted to change that, drafting an amendment that largely tracked with Ron Paul’s.

Bernanke and Geithner both saw dire consequences if it was enacted: There would be intense new political pressures on the Fed’s monetary policy, which would inevitably make policymakers more reluctant to make hard but necessary decisions. And provisions that would require disclosure of emergency lending to banks through the discount window would make banks reluctant to use those programs, making a financial crisis that much more likely. If the Sanders amendment passed the Senate as written, it would almost certainly become law, given that nearly identical provisions had been passed in the House bill earlier. There would be a committee to reconcile differences between the two versions of the legislation, but it couldn’t very well scrap something that was in both versions.

Dodd and Senate majority leader Harry Reid were clear with Sanders: If he wouldn’t agree to changes to his amendment that would protect Fed independence, making it acceptable to them and the Obama administration, they would use the elaborate procedural hurdles of the Senate to try to block it, preventing it from ever coming up for a vote. If, however, Sanders could reach an agreement with Dodd that would achieve his main goal of transparency but compromise on areas that threatened Fed independence, they would put their full support behind his amendment and move quickly for a vote.

On May 11, Sanders took to the floor of the Senate to formally introduce his amendment. His staff advised him to keep talking for as long as he could; they needed the time to hammer out a compromise on increasing oversight of the Fed. “
The time is now that we have got to end secrecy at the Fed
,” said the white-haired Vermonter. “This money does not belong to the Fed. It belongs to the American people, and the American people have a right to know where it’s going.”

While he spoke, in the majority leader’s office a few steps from the Senate cloakroom, itself a few steps from the Senate floor, Sanders’s and Dodd’s staffs started going back and forth with Reid’s advisers looking on. Sanders’s people agreed that monetary policy wouldn’t become subject to oversight by congressional investigators. Dodd’s staff conceded to making the Fed’s emergency lending public, against the wishes of the big banks as well as the Fed—but only after a two-year delay that would help prevent banks from turning down the loans out of fear of stigmatization. Dodd’s aides also agreed to a Sanders demand that there be a top-to-bottom investigation and full public disclosure of the Fed’s lending during the crisis.

The deal they struck had something for everyone—for Sanders the liberal populist and the anti-Fed crowd from the Tea Party right, it demanded that the Federal Reserve reveal more information than ever before about its operations. But it did so in ways that Bernanke, Geithner, and Dodd believed would leave the central bank with enough discretion to fight inflation or backstop the banking system when it needed to.

“
I had to make a political decision
,” Sanders told reporters later that day. “What people were telling me—friends of mine were telling me, Democrats, some Republicans, were saying, you know, ‘We like the idea of transparency. We like the idea of an audit. But we are afraid that this is going to get into the day-to-day monetary policy of the Fed. We don’t want that.’”

Whereas Sanders’s original amendment would have been a hard-fought vote, the compromise version passed the Senate 96–0.

A day later, on May 12, it was the Hutchison amendment’s turn. After a full year of jockeying, lobbying, and arm-twisting, the debate on the Senate floor wasn’t a debate at all. Hutchison and her cosponsor, Democrat Amy Klobuchar of Minnesota, each spoke for about thirty seconds.

“This amendment ensures that the nation’s monetary policy has a connection to Main Street and not just Wall Street,” said Klobuchar. Citing one of her constituents, the president of the Grand Rapids State Bank, she continued, “All senators should be reminded that the Federal Reserve System was created to serve all of America, not just Wall Street.”

Making the case against—sort of—was Dodd, who’d become resigned to seeing his goal of cutting back the Fed’s authority go down in flames as one senator after another had heard from his or her local bankers. “I’m going to oppose the amendment, but I’m not going to speak against it,” he said. He looked at Hutchison and put his hands up, gesturing, “I surrender.”

And that was it. The vote began. Hoenig and four of his colleagues watched it on a TV in the library just outside his office high above Kansas City. They started out writing down how each senator voted, but after a few minutes it became apparent that keeping a running tally was unnecessary. The final vote was 91–8, on legislation that reversed Dodd’s approach and left the Fed as regulator of almost all of the nation’s banks. Hoenig walked down to the ninth floor of the Kansas City Fed’s office tower, to where the bank examiners worked—the very department where he’d begun his career four decades earlier—and offered praise to a group that had been demoralized by becoming a pawn in the postcrisis negotiations.