Put Extra Eyes on the Fed
From its actions during the 2008 financial crisis to its policy of quantitative easing, there has been a considerable amount of controversy regarding the Federal Reserve system in recent years. Now that Republicans have taken control of the U.S. Senate, the calls for the U.S. Government Accountability Office to "audit the Fed" have increased and gotten louder.
In my view, the GAO should be granted additional authority to audit certain aspects of the Fed's activities. But that authority should be limited and coupled with safeguards to address some of the legitimate concerns Fed officials have expressed.
Before suggesting changes, it's important to understand the status quo. The Fed is subject to an annual financial statement audit by a major independent auditing firm. The Fed also has an inspector general to conduct additional audit work. However, legal restrictions severely limit the GAO's ability to "audit" the Fed’s activities.
The GAO performs a broad range of auditing for Congress and the American people, and its work goes far beyond the scope of a traditional financial statement audit. Contrary to common perception, those audits are not focused on operational, economic, efficiency, effectiveness, consistency and equity issues. As a result, the GAO's work typically focuses on performance and compliance matters that are not addressed in financial statement audits.
During the financial crisis that began in 2008 and the resulting serious recession, the Fed took a number of unprecedented steps to help avoid a depression and deflation. Those steps included providing assistance to a broad range of financial institutions; facilitating takeovers of troubled institutions, such as Bear Stearns and the dissolution of others, including Lehman Brothers; and purchasing trillions of Treasury securities as part of its quantitative-easing efforts. All of these actions were in addition to the Fed's normal and recurring monetary policy actions, which are the subject of continual testimony in Congress.
Because of these actions, the Fed's balance sheet more than tripled. That raised questions, along with others, about the provision of assistance to foreign-based financial institutions doing business in the U.S. and various domestic investment banking firms, as well as the legal basis for the federal government's actions in connection with AIG.
The Fed engaged in many of these activities because it was the only major player who could act in the absence of additional help by Congress and the president. Plus, the Fed's "dual mandate" requires it to consider taking actions when the country is experiencing high levels of unemployment.
In hindsight, the Fed did help to avoid a depression and deflation. Yet, certain financial institutions, along with their shareholders, executives and highly paid employees, benefited from the Fed's actions while many innocent homeowners, taxpayers and savers paid the price for the bad behavior of others. Reforms including the Dodd-Frank Law were intended to reduce the chances of repeating these experiences in the future, but only time will tell how effective they will be.
As a former U.S. comptroller general and head of the GAO, I know that many people and institutions say they are in favor of transparency and accountability -- until it relates to them. Such is clearly the case in government, including at the Fed.
Still, given the size, significance and unprecedented nature of recent Fed actions, more needs to be done to enhance transparency and improve accountability at the Fed. Specifically, it's time to employ a "trust but verify" approach by using the GAO, which is an independent and nonpartisan agency, to conduct related audit work in areas other than the Fed's traditional monetary policy activities.
It is understandable that the Fed needs to be able to conduct its normal monetary policy confidentially and non-politically. However, it is not in the public interest for the Fed to be exempt from an independent GAO post-decision audit and responsible reporting on its other activities.
For example, it could make sense to conduct independent post-decision reviews of the criteria the Fed used for acquisition and disposal of major assets, such as Treasury securities, as well as its regulatory, oversight, bailout and other extraordinary decisions. These GAO audits could be particularly important in connection with the process the Fed uses to wind down its huge position in Treasury securities and in any future bailouts.
There should be an appropriate degree of confidentiality for Fed officials' deliberative comments, and for aggregating certain public reporting of audit results. The GAO and the Fed's inspector general should avoid duplicating efforts.
Irrespective of what happens with auditing the Fed, there should be more transparency and accountability in connection with a range of financial markets, such as mortgage-backed securities and federal insurance practices. Doing so will help to improve efficiency and equity while minimizing the need for future government intervention. Adoption of these approaches can serve to reduce or even eliminate the role of government-related guarantees, including mortgages and flood insurance, in various areas over time.
It can also facilitate both private gain and public good rather than perpetuating the current “heads, private players win; tails, public institutions and taxpayers lose” approach.
This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.
To contact the editor on this story:
Stacey Shick at email@example.com