Morningstar Advisor - June/July 2009 - 44

Morningstar Conversation like a newly created RFC. The only other alternative would be to just explicitly require the Treasury to take these loans off the books of the Fed, to recapitalize them and refund them with Treasury debt issues. Kane: What do you think is going to be the long-term effect on the Federal Reserve as an institution? It has exercised discretion it was never given. The independence of monetary policy was always the central principle underlying its responsibilities and discretion. By putting bankers and brokers first in the line out of all other members of society, do you think that the Federal Reserve can retain its independence going forward? Todd: Martin, do you want to respond to that? Mayer: I have been very disturbed about the should be a law that prevents academics from becoming chairmen of the Fed. Kane: Do you think that there’s something just for chairman, but I have seen him cave on occasions when he shouldn’t have. Kane: You’ve worked in government, so you inherently weak in the experience of these people—that they haven’t had enough tussles to be able to stand up to authority? Mayer: I think so. The experience of being an academic is not good for the sort of self-assertion that Bill Martin was good at. Todd: The main problem with these guys is that know how intense these pressures are, and it’s always hard to do the right thing. Someone who does the right thing 90% of the time is a hero in Washington. Todd: In Washington, 70% is good. Mayer: The thing that shocked me the last way this thing has worked in terms of body language. [Fed chairman from 1951 to 1970] Bill Martin was very reluctant to go to the White House for lunch with Lyndon Johnson because he thought that he was not part of the executive branch, which indeed the Fed is not, remember? The Constitution gives Congress the power to coin money and regulate the value thereof. [House Banking Committee chairman from 1965 to 1975] Wright Patman used to say, “We farmed it out to the open market committee of the Federal Reserve.” The basic source of the Fed’s real authority is in the Congress, not the executive branch. It was always Bill Martin’s feeling—and it was certainly the feeling of [Fed chairman from 1979 to 1987] Paul Volcker—that they were not part of the executive branch. They didn’t take dictation from the president of the United States, and indeed, Lyndon Johnson blew his stack about Martin once raising interest rates, but Johnson couldn’t do a thing about it. I think all of this has been lost. The Fed has sacrificed under Ben Bernanke, as it had under [Fed chairman from 1970 to 1978] Arthur Burns, quite a lot of its independence. There they never examined a bank and they never made a loan before they got these jobs. Tom Hoenig of the Kansas City Fed wrote a very interesting speech, essentially dissenting from current Fed policy and advocating explicitly that the new lending activities be channeled off into a newly constituted RFC. He does have a Ph.D. in economics and he is a Keynesian, but he came up through the bank examination channel and served as the discount window officer at the Kansas City Fed. As he used to put it, unlike all his other colleagues at the Federal Open Market Committee meetings, he had in fact examined a bank or made a loan, and nobody else sitting at the table had ever done that. Kane: I think it’s wrong to suggest that it is a matter of individuals. I do think there’s a terrible problem in how we recruit top officials in government, but I suspect that whoever would have been Fed chairman at this time, whether he was an academic or not, would have been subject to intense pressure to do what the Treasury wanted, what Wall Street wanted, to keep from having these losses go to counterparties who are politically very powerful. A person would have to be extraordinarily tough to survive this pressure. Mayer: Volcker. Kane: Volcker was a unique person, and we were lucky to have him at the time. Todd: He would have been the best choice few days is the fact that the Fed is now insisting that on the Term Asset-Backed Securities Loan Facility, it all has to be rated by the same stupid rating agencies that got us into trouble to begin with. What’s wrong with these people? Kane: It’s plain avoidance is what it is. It has been very convenient to let these credit rating organizations call themselves “agencies,” even though they aren’t. I’ve been objecting to that term for decades. Bergman: It’s also the way the government incorporates credit ratings into their own regulations, thereby downloading the regulatory responsibility on the rating agency. Was that part of the problem? Kane: Absolutely. One has to remember that these are profit-making institutions. Issuers will would pay more money for a good rating than a bad one, and issuers are very clear what kind of ratings they want. This is a straight-forward way to pay bribes without ever violating the law, it appears, and the credit rating organizations do not take formal responsibility for their incompetence or negligence. Mayer: One of the untold scandals of this country is that our museums are stuffed with fake old masters because the people who authenticated paintings for the Mellons and Morgans of this world were paid a percentage of the price for the authentication. If they said it was no good, they got a 44 Morningstar Advisor June/July 2009

Morningstar Advisor - June/July 2009

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