Common Cents

Independent Central Banks

Ralph Murphy

(6/2019) The Federal Open Market Committee of the American Federal Reserve bank met in Washington to determine the interest rate level linked to overnight interbank lending known as the Federal Funds rate. Rates were determined steadied at about 2.41%, up from recent 1% levels in 2017 and well above the near zero percent of 2008 as the inflationary pressures subside. The meeting and rate itself drew attention not only to the system’s inability to respond to immediate market needs, but the likely role of the rate as it has been manipulated and eclipsed by other market determinants that have made it almost obsolete.

The Federal Reserve Bank system emerged in the United States in 1913 following a pressing requirement for better-managed currency control and regulation of the nation’s emergent banking system. Paper currency was a relatively new phenomenon stemming from a Legal Tender Act of 1860 and gold or silver coin were still the routine transaction medium for conventional retail sales. The Constitution permitted the Federal government no paper currency issue to back monetary circulation. Bank notes linked to state regulatory operations were oddly allowed and served a similar exchange role, but the government needed to address its own regulatory capacity as regions weren’t self policing effectively and inflationary and other market dis-equilibriums were common.

The nation’s central bank was tasked with monetary control as well as bank supervision. The Constitution vested both legally to Congress. The Federal Reserve was perceived to need institutional autonomy so the bankers could make non-political decisions.

A technical background more to highlight good intention lost to market manipulation also involves federal funds rate. There was a reserve requirement enforced by regulators to insure that sufficient funds were available on overnight deposits held by the importantly larger banks with bankers then able to meet the withdrawal minimum in their holdings but also to control monetary expansion to the claim. The objective again was to enforce as market stability and the lender bank could then charge that federal funds rate and thereby draw down the borrowers assets by that level in exchange with its repayment.

The Federal Reserve as of 2008 started paying interest on the reserves and shortly after a relatively new phenomenon known as repurchasing agreements, or repos, also permitted interbank lending, but the interest rate was invariably higher than the federal funds rate and the Fed was also obliged to pay interest on the marginally controlled and grossly oversupplied reserves by then almost completely regulated by the banks themselves as was the money supply. That did affect the general currency levels as well as its value. The repo system also afforded almost unregulated bulk cash transfers and became a real survival issue as the money was simply outsourced to almost uncontrolled and non-performing projects here and abroad.

The bottom line of the issue is the Federal Funds Rate is unrealistically static to current market needs and more scrutiny should be placed on bank management and competence in lending return than the transfer medium. If expansionary pressures in the economy broadly exist, the money supply can easily be increased through other methods such as bond sales linked to open market operations.

There is a strong need to control new money being introduced to the economy itself if growth prospects warrant expansion again, based on successful technological advancements or other forces to emergent marketable systems.

Currently cash is made available through government security sales, but a discount window of regional Fed banks for commercial clients does the same but is more closely linked to short term loans with higher costs presumed in conventional circumstances. Money supply changes likely need only the Treasury security sales or purchases for that type change. There is routine expansionary pressure in a growing economy and value is maintained by linking new currency directly to new growth, but the levels generally aren’t that high relative to the Fed broker role. It’s a slower macroeconomic issue than the faster market rates topped to micro bank deals. The federal funds rate doesn’t affect the money supply table levels despite justifying them by that lateral loan broker.

That federal funds rate is too arbitrary and routinely ignored by even the regulators to serve its control function. The real advantage would be better served by assured bank competence in closer working approximation to their corporate clients producing conventional goods or services. While dangerous given possible conflict of interest they could be allowed to lend to other banks if the government serves as a regulatory broker to a sound deal and not a medium for cash. The vault link or new money creation does seem where they have current real legal and propriety issues which translate to theft or damage and need for repair.

That whole system is broadly managed by the executive standing committees based in the Office if Management and Budget and in slower times or those of less clarity the gross over-billing and arbitrary nepotism went largely unnoticed. They had the executive recommendations for budgetary issues tied to executive departments which applies to most government spending. If a contractor could work out an insider understanding to advance a program it would be almost certainly forwarded there and through Congress which seldom can block even their legislative proposals.

Most of the spending issues bemoaned of big government do seem linked to poorly scrutinized contractor deals, abroad as in Germany they seem less able to hide that over-bilking though the state direct role is much higher with similar counter competition issues. Much of it has been recently resolved, however the potential for cost overruns continue without specific legal control and enforcement.

At the federal level policy review and legislative action could be easily closer linked to systemic affordance or denial that affects the whole nation and not their internal or functional issues better served by integrated management than that type official role. In effect they’d be relatively rarely needed beyond budget approval given changes to circumstance. Again the system as OMB de facto control did use to work, it is less clearly effective now as their former control understandings have devolved to Congressional like flippant populist and others are rattling for change.