Reading the Federal Reserve’s 2008 Meeting Transcripts

Over at Project Syndicate: Revisiting the Fed’s Crisis: It has been busy days: reading through the transcripts from the 2008 Federal Reserve Open Market Committee meetings in the interstices between pieces of the day job. As I read, I find myself asking the same overarching question: how did the FOMC get into the mindset that it had in 2008?

Oh, there are five voices that seem to me to broadly see and understand the situation. As Jon Hilsenrath of the Wall Street Journal points out, William Dudley’s presentations from the New York Fed’s Markets Group are ideal pieces of bureaucratic staff work that politely and compellingly focus the attention of the principals where it needs to be focused. Janet Yellen from San Francisco, Eric Rosengren from Boston, and Rick Mishkin and Don Kohn from DC and the Board of Governors in Washington clearly get it. But the other members of the FOMC? The rest of the speaking senior staff? Not so much–albeit to greatly varying degrees.

I remember the long history dating back to 1825 and before in which the uncontrolled failure of major banks triggers a flight to quality, asset price collapses, panic, and depression. I contrast that with the FOMC’s mid-September not fear and worry but the self-congratulation by many on the FOMC at having found the strength not to bailout Lehman Brothers–not something I can comprehend. I find myself thinking back to the winter of 2008. I remember how I stole–and used as much as possible–one of Larry Summers’s lines:

In the aftermath of the crash of the housing bubble and the extraordinary losses on derivative securities, banks will have to diminish leverage. While it does not matter much to any individual bank whether it does so by reducing its book or by raising its capital, it matters very much to the economy that the banks choose the second.

In that context, declarations like Tim Geithner’s in March 2008 that “it is very hard to make the judgment now that the financial system as a whole or the banking system as a whole is undercapitalized” and that “there is nothing more dangerous… than for people… to feed… concerns about… the basic core strength of the financial system”–I find those declarations incomprehensible. I look at the long robust and stable time-series history that shows that it is core inflation and not headline inflation that matters for predicting future inflation–even future headline inflation–and declarations like Richard Fisher’s then–and now–that the summer of 2008 saw dangerous inflationary pressure building: I find those declarations similarly incomprehensible. I certainly cannot comprehend them now. And I cannot put myself back into a 2008-era mindset in which I could have comprehended them then.

Some of it–most of it?–is that there are things that are very real and solid to a monetary economist. We can see, touch, and feel how a financial deleveraging cycle depresses aggregate demand; how this year’s change in an inertial price like wages tells you a lot about next year’s wage changes but this year’s change in a non-inertial price like oil tells you next to nothing; how herd behavior by investors means that a single salient bank failure can turn a market from a financial mania into a panic, and then a crash. But others do not see, touch, and fell these things. For non-economists, they are simply ambiguous shadows on the walls of a cave.

The old Federal Reserve had a charismatic, autocratic, bullying, professional central banker at its head: Benjamin Strong, Marriner Eccles, William McChesney Martin, Paul Volcker, Alan Greenspan. When it worked–and it did not always work–the Chair ruled the FOMC with an iron hand and with the near-lockstep voting support of the Governors, and the views of the others with their varying banker, regulator, worthy, and other backgrounds were of little or no account.

The Bernanke Fed has been different. It was collegial, respectful, consensus-oriented.

I think about Ben Bernanke, and about his policy views, and about the analyses he did in the 1980s and 1990s of the Great Depression in the U.S. and of Japan’s “lost decades”. I sense a strong disconnect between the knowledge-base of ex-Professor Bernanke on the one hand and the failure of the 2008 FOMC to sense what was coming down the turnpike and to act to guard appropriately against the major downside risks on the other.

And I find myself wondering: If the Bernanke Fed had been the old Fed–if Rosengren, Yellen, and Mishkin and Kohn on the one hand; and Geithner, Plosser, Fisher, and so forth on the other; had to make their cases to Bernanke in private; and if he had then said “this is what we are going to do” rather than building a within-meeting consensus–would we then have had better monetary policy decisions in 2008?