Karen Shaw Petrou’s memorandum to Federal Financial Analytics Clients on the failure of a fortress fed.
TO: Federal Financial Analytics Clients
FROM: Karen Shaw Petrou
DATE: July 17, 2015
Einhorn’s FOF Re-positions Portfolio, Makes New Seed Investment In Year Marked By “Speculative Exuberance”
It has not just been rough year for David Einhorn's own fund. Einhorn's Greenlight Masters fund of hedge funds was down 3% net for the first half of 2020, matching the S&P 500's return for those six months. In his August letter to investors, which was reviewed by ValueWalk, the Greenlight Masters team noted that Read More
Facing attacks unparalleled in recent memory, the FRB in the past few years has tried to wall itself off from critics it often disparages and even ridicules behind its tightly-closed doors. But, in constructing itself into a Fortress Fed, the Board is making one of the hallmark failures in organizational theory: shutting out dissenting voices so firmly that change, when it comes, is catastrophic. Typically, organizations forced finally to face their critics and to confront a calamitous siege adopt a last-ditch tactic: they throw something over the parapet in hopes it somehow stops the assault. Big banks, take your position!
To me, the most striking aspect of the hearings this week was the barely-veiled contempt that key, substantive, serious members of Senate Banking showed for the central bank. Sen. Warren was a fierce advocate for Chair Yellen’s nomination, but since has turned into one of her most ferocious critics, mobilizing her formidable political phalanx to mount a campaign on resolution policy and enforcement penalties. It was thus not surprising that she mercilessly took Ms. Yellen to task.
Sen. Corker’s attack is, though, another matter. He is usually far more susceptible to moderate policy solutions. Yesterday, though, he came out swinging, accusing the FRB of “regulatory capture” because it has taken no action against any of the largest banks following their failed 2014 living wills. Sen. Warner was more polite, but asked when the FRB would issue the TLAC rules because these are a priority item if orderly resolution without taxpayer bail-out is to be believed. Ms. Yellen tried to promise tougher plan reviews and concurred with Sen. Warner’s analysis, but made no promises.
Indeed, the Fed chair often acknowledged a concern, but then failed to make clear what the FRB will do to redress it. This is fine to a point when it comes to monetary policy – the FRB should really be as independent as Ms. Yellen demands. But, even there, critics often have good points. The exit from trillions in accommodative monetary policy has never been done before by the Fed and, sure of itself as it is behind its fortress perimeter, it might need a bit of help. Reckoning with market instability from forces beyond its control in concert with rising rates should not be a black art sealed from outside scrutiny.
But, if the Fed should listen to outsiders on monetary policy, it should really hear its critics on the regulatory front. I’m not saying here that the FRB should do whatever industry commenters recommend as each new rule rolls out. Some of that’s right, some not so much. Where the Fed went deaf and what’s costing it so dearly now is the policy criticism of the slow, tortuous, and often hesitant rollout of the post-crisis regulatory and resolution framework.
Eight years after the crisis and five after Dodd-Frank’s enactment is not too soon for Congress to demand that the FRB make itself clear on key planks of the regulatory and resolution framework. Had the Fed been more strenuous early on – a tougher prudential enforcement action against an egregious miscreant, one or another flunked living wills – the heat would be, if not off, then less intense. The only reason the FRB was named the capo di tutti capi of systemic regulation by Dodd-Frank is because no one could figure out to whom else to give this august responsibility. With the FRB flubbing it now, the responsibilities could well be whittled away. House legislation, for example, makes systemic regulation even more incoherent than it now is – and that’s saying something.
Does the FRB know this? Sort of, from what I’m hearing. Will it do something to defend itself on the regulatory front? For sure. It will be too much too late, I think – earlier action would have been more sensible, sophisticated, and credible. But, facing fire on all sides from legislators with the power of the pen, the FRB will do what it can to save itself – and soon. Change from within will come too hard, but victims from outside are in ample supply. The G-SIB surcharge on Monday will be very tough, but it’s just the FRB’s starting point for what it now plans to do to the largest U.S. banks in hopes that big-bank blood will feed the Congressional beast, securing the Fed again solidly within its comfortable fortress.