MacroScope

For Bank of Israel governor Stanley Fischer, this week’s high-powered macroeconomics conference at the International Monetary Fund was a homecoming of sorts. After all, he was the IMF’s first deputy managing director from 1994 to 2001. The familiar nature of his surroundings may have helped inspire Fischer to use a household analogy to describe the vaunted but often ethereal principle of central bank independence.

Fischer, a vice chairman at Citigroup between 2002 and 2005, sought to answer a question posed by conference organizers: If central banks are in charge of monetary policy, financial supervision and macroprudential policy, should we rethink central bank independence?  His take: “The answer is yes.”

In particular, the veteran policymaker, who advised Fed Chairman Ben Bernanke on his PhD thesis at MIT, argued various degrees of independence should be afforded to different functions within a central bank.

While monetary policy should be more insulated – though it is not always – from politics, it might be appropriate for the financial stability function to entail greater coordination with fiscal authorities, as is the case in Israel. Which is where marriage comes in:

Some of my colleagues say, well, you can’t be independent in one role and not in another. Well, I don’t think any of them are married, if that’s what they say. You can be. There are things you do (separately) and there are things you do together.

Too-big-to-fail banks are bigger than ever before. But top regulators tell us not to worry. They say the problem has been diminished by financial reforms that give the authorities enhanced powers to wind down large financial institutions. Moreover, supervisors say, the new rules discourage firms from getting too large in the first place by forcing them to raise more equity than they had prior to the financial meltdown of 2007-2008.

New York Fed President and former Goldman Sachs partner William Dudley said in a recent speech:

There has already been considerable progress in forcing firms to bolster their capital and liquidity resources. On the capital side, consistent with the Dodd-Frank Act, Basel III significantly raises the quantity and quality of capital required of internationally active bank holding companies. This ensures that the firm’s shareholders will bear all the firm’s losses across a much wider range of scenarios than before. This should strengthen market discipline. Meanwhile, to the extent that some of the specific activities that generate significant externalities are now subject to higher capital charges, this should cause banks to alter their business activities in ways that reduce both the likelihood and social cost of their failure.