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How To Reform America’s Central Bank

By Knowledge Wharton. Originally published at ValueWalk.

Author Danielle DiMartino Booth discusses her recent book, an insider’s look at the Federal Reserve.

The Federal Reserve is center stage again. The central bank has raised the benchmark interest rate three times since December and is expected to do it again this year. For most Americans, how the Fed operates is a bit of a mystery. The agency and its leaders are also largely blamed for missing the signs leading up to the 2008 financial crisis. Danielle DiMartino Booth, who was an analyst the Federal Reserve Bank in Dallas and adviser to that institution’s president, Richard Fisher, talks about the issues in her new book, Fed Up: An Insider’s Take on Why the Federal Reserve is Bad for America. DiMartino Booth, who is also founder and president of the Dallas-based economic consulting firm Money Strong, spoke to Knowledge@Wharton about her perspective. Has the dual employment mandate not invited Mission Creep of the most nefarious sort?

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Fed Up

Fed Up: An Insider’s Take on Why the Federal Reserve is Bad for America

An edited transcript of the conversation follows.

Knowledge@Wharton: Playing off the title of the book, what do you think is wrong with the Fed right now?

Danielle DiMartino Booth: I think the Fed is overpopulated by a singular school of thought that has in the past blinded it to crises as they’re coming our way because they have such a unitary mind frame and singular way of approaching monetary policymaking.

Knowledge@Wharton: Let’s go back to 2007 for a minute. What did they miss?

DiMartino Booth: Ben Bernanke said that it was important to know of the fire code, but that he would rather be the fireman. I found this comment to be very insightful because, since Alan Greenspan was chairman, the thinking has always been that the Fed cannot do anything to address a bubble, even if they have identified one. They can only come in in the aftermath of the bubble and clean up the mess. I think that philosophy is inherently broken.

Knowledge@Wharton: What does it take to jump ahead of something like this?

DiMartino Booth: I think it takes a broader appreciation. Richard Fisher and I, we both have our MBAs in finance and started off on Wall Street. We weren’t intimidated by the financial markets, but we certainly have an appreciation for how the financial markets interacted with monetary policy in addition to economic data. I think it’s having a more holistic view that would have helped policymakers see what was coming. But instead of studying junk bond spreads in addition to inflation below target, they were just looking at the economic data. That’s why they got sideswiped.

Knowledge@Wharton: Do you the Fed is on a good path with the rate hikes this year and more expected?

DiMartino Booth: I think it would have been a great idea to be on this aggressive monetary tightening path about three years ago. That is when Janet Yellen’s favored Labor Market Conditions Index, which she actually created, was gaining momentum as opposed to February 1, which marks the anniversary of the third-longest economic expansion in post-war history. It’s clearly apparent that there are a lot of economic data, car sales being the primary one right now, that are telling us that this economic cycle has peaked and rolled over. You have to sit back and ask yourself, “Why now?” Unless it’s purely paying catch up, or playing politics.

Knowledge@Wharton: Talk about the Fed and its relationship with Wall Street right now.

DiMartino Booth: The way I look at it is, the tail wags the dog. There is an under-appreciation and a lack of understanding of the financial markets, so more often than not we end up with the tail wagging the dog. In other words, central bankers have become very reactive to the financial markets as opposed to being agnostic to them and truly adhering only to safeguarding their dual mandate.

“This is not some kind of secret order of bankers out to destroy the world.”

Knowledge@Wharton: Transparency is one thing, but you would like more Americans to better understand what the Fed is doing and why. Correct?

DiMartino Booth: Absolutely. I think there are way too many conspiracy theories out there about the Fed, precisely because it’s misunderstood. There’s really nothing complex. This is not some kind of secret order of bankers out to destroy the world. I always giggle and get a kick out of the people who feed the public’s fear about the Fed. But at the end of the day, they leave it as a black box. It is not a black box at all. These are people who are studying mainly the Keynesian economic school of thought and applying it to monetary policy.

We’re talking about over a thousand Ph.D.s, if you include the people who are contracted to work at the Fed. Study after study has shown that what is broken globally in monetary policymaking is that so few schools of thought enter central banking aside from the lower-for-longer, the quantitative easing, the unconventional — even though the Japanese have clearly showed us over the years what it means to push on a string.

Knowledge@Wharton: What is your reaction when you hear comments such as the one President Trump made during his campaign about the Federal Reserve being a political entity?

DiMartino Booth: I understand it’s a recovery, but you’re talking about 1.8% since we came out of recession. It’s nothing to write home about. I’m of the opinion that the Fed has facilitated misfeasance on Congress’s part by taking the onus off of fiscal policymakers to do their job. It’s ridiculous.

Knowledge@Wharton: If the changes had been made three years ago, like you suggest, do you think we’d be looking at 2.5% to 3% growth on a routine basis?

“Business cycles are cyclical because they end up achieving what capitalism does.”

DiMartino Booth: I do. I also think that we might have gone into recession. There’s a very high probability that that would have been the case. But that’s OK. That’s why business cycles are cyclical, because they end up achieving what capitalism does. They end up taking the wounded buffalo out of the herd and making the operating environment for really efficient competitors that much better when you’ve come out of it, laying the groundwork for much faster growth.

Knowledge@Wharton: Before Ben Bernanke was Alan Greenspan, who is seen by many as a legendary figure. You write about the impact of Greenspan in this book. Talk about his place in this process.

DiMartino Booth: He’s the one who made the rules. He wrote the rule book when you consider the fact that August of this year would have marked his 30-year anniversary of entering the Fed. He entered the Fed two months before the market crashed. It was his reaction to the 1987 market collapse that set the basic philosophy of central bankers inside the Fed going forward. That is, you make sure that no matter what happens you put a floor under investor losses. In the book, I write about the so-called Greenspan Put that was born, placing a floor underneath your losses, as buying a

The post How To Reform America’s Central Bank appeared first on ValueWalk.

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