Be happy that Stan Fischer worked at Citi

February 10, 2014

Last week, Justin Fox had a great post entitled “How Economics PhDs Took Over the Federal Reserve”. The first Fed chairman of the modern era was a banker, Marriner Eccles; he was succeeded by Thomas McCabe, who had a bachelor’s degree in economics but whose main qualification was having been the CEO of Scott Paper. Then William McChesney Martin moved over to the Fed from Treasury; he was a former stockbroker and New York Stock Exchange president, and ushered in a new era:

Under Martin, regulating the economy through monetary policy pushed aside bank regulation to become the central bank’s No. 1 job. So hiring economists, and bringing people with serious economics backgrounds onto the FOMC, became a priority…

The new Fed Board of Governors (assuming the Senate confirms the latest nominees) will include veteran economics professors Yellen, Stanley Fischer, and Jeremy Stein, plus Lael Brainard, an economics PhD who has spent most of her career in Washington but did teach at MIT for a few years early in her career. The other three members are lawyers who have spent much or most of their careers in government. As for the Federal Reserve Bank presidents, eight of the 12 have economics PhDs and seven of those have spent much or all of their careers at the Fed. Two of the non-PhDs have spent their careers at the banks they lead, while only two bank presidents — Atlanta’s Dennis Lockhart and Richard Fisher of the Dallas Fed — fit the pre-1950 Fed mold of successful bankers/businessmen doing a stint as central bankers.

The ascendancy of the professoriat didn’t serve the Fed particularly well: without real-world business or banking experience, the FOMC ignored the problems of growing leverage, particularly in the financial sector, for far too long. Alan Greenspan’s Fed was run on laissez-faire principles: the market is a self-correcting mechanism which doesn’t allow banks and shadow banks to become too leveraged. Or, to put it another way, if investors are happy buying structured credit products at razor-tight spreads over Treasuries, then who are we at the Fed to spoil their party.

When the credit crisis first hit, in 2007, worries spread out from Wall Street: mortgage bankers first, then banks more generally, then the New York Fed, which is very plugged in to real-world concerns in the financial sector. The problem was the final leg, from the New York Fed to the Federal Reserve Board: for all that there might be a problem in practice, the economists in Washington couldn’t see how it would be a big problem in theory. And so they convinced themselves, in the notorious words of Ben Bernanke, that the subprime problem was going to be “contained”.

It’s therefore a real problem that the American central bank — which is, after all, a bank, and an incredibly profitable one, at that — has precious few actual bankers on its governing board. I’m all in favor of having a significant number of monetary economists who can think deeply about the effect of short-term interest rates on employment and inflation. But at the same time, it would be nice to have a few people who understand financial markets, and the pass-through mechanisms which define them. Not to mention a relatively sophisticated understanding of what banks actually do, on a day-to-day basis. After all, the Fed is the main prudential regulator of the banking system, and its board needs to understand where the stresses are.

All of which serves to underscore what an excellent nominee Stanley Fischer is as vice-chair of the Federal Reserve. Yes, he’s a professor — indeed, he wrote the definitive macroeconomics textbook, which is now in its twelfth edition and still going strong. He’s also a deeply experienced central banker and international policymaker. But he also has some real-world banking experience, having worked in a senior level at Citigroup from 2002 to 2005.

According to Pedro da Costa, however, Fischer’s years at Citi will count against him when he appears at his confirmation hearing:

The nominee for Fed vice chairman is likely to face questions at his confirmation hearing about whether he would be a tough regulator of big banks after earning several million dollars at one.

This is, let’s say, unhelpful. Yes, Fischer earned good money when he was at Citi. But the reports about his financial disclosure form I think draw too much of a causal connection between his Citi tenure and his wealth. Here, for instance, is Bloomberg’s Joshua Zumbrun:

While Fischer has spent much of his career as an academic and government official, he served as vice chairman of Citigroup Inc. from 2002 to 2005 and amassed a personal fortune of between $14.6 million and $56.3 million, a sum that would make him one of the wealthiest Fed officials.

The implication here is that Fischer had a modestly-remunerated public-service career before he joined Citi and cashed in. Which really isn’t true. Fischer’s tax-free income at the World Bank and IMF was substantial, and he surely made just as much money when he was at MIT. But the real money, I’m quite sure, came from that textbook, which he co-wrote with Rudi Dornbusch. It was the macroeconomics textbook of the late 1970s, and, like all standard textbooks, became something of a license to print money. (The trick is to keep on updating the textbook with new editions, making old second-hand versions useless and forcing students to pay three-digit sums for the version being used in class.) If Fischer took his textbook proceeds and invested them conservatively into the great bull market of the 1980s and 1990s, that alone would make him a very wealthy man today.

Fischer left Citi before it imploded, but he was there while it was manufacturing many of the toxic subprime products which ended up proving all but fatal. Mortgage products weren’t Fischer’s area, but he did work very closely with Robert Rubin, who was blithely unconcerned about the risks being built up. That’s an incredibly important and valuable lesson to learn: you can’t trust wise men like Rubin to see what’s going on in front of their face. And when bank CEOs tell the Fed board that they have everything under control, Fischer will know better than most just how little those statements can be trusted.

I doubt that Fischer will have any real problems being confirmed. Any senators who want to cause mischief can certainly do so — they can point to his private-sector experience, or they can bellyache about how he has various different nationalities rather than being “100% American”. But Fischer is probably the best central banker in the world; it would be completely insane for the Senate to block him. Especially given that he brings some of the actual banking experience that the Fed so desperately needs.


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