Jeffrey Lacker on Governance at the Federal Reserve

Episode Summary

Executive Summary: Jeff Lacker argues that the Fed’s 2021-22 inflation failure was shaped not just by policy errors but by evolving governance: tighter Board control over Reserve Bank president selection, weaker public dissent norms, and the Fed’s deeper entanglement with Congress through pandemic credit programs. He also critiques the current operating regime’s complexity and politicizing effects, warning that these changes can erode independence and distort monetary policy.

Main Topics: Fed governance and the post-2009 shift in Reserve Bank president selection (Priority: 5/5): Lacker says the Board of Governors became more involved in selecting Reserve Bank presidents, moving from late-stage approval toward near co-management, which may have screened out more independent or dissenting voices. Decline in public dissent and consensus-driven communication (Priority: 5/5): He argues that public dissension on the FOMC fell sharply around the 2021 inflation episode, possibly because Chair Powell prefers a corporate-board style of unity in public even if disagreement occurs internally. Pandemic credit policy and Congressional entanglement (Priority: 5/5): Lacker contends the Fed crossed into fiscal territory during COVID-19 through credit programs and public pressure on Congress to spend more, creating political exposure that may have complicated later anti-inflation tightening. Fed independence and politicization risks (Priority: 4/5): The discussion emphasizes that greater attention to climate, inequality, and partisan appointments may be politically useful short term but could weaken the Fed’s credibility and make it more vulnerable to future attacks. Monetary policy operating regime and multiple administered rates (Priority: 5/5): Lacker questions why the Fed now sets four key rates instead of one, arguing the current framework is more complex, creates spillovers and winners/losers, and lacks strong analytical justification for managing spreads. Market dysfunction, reserves, and balance-sheet footprint (Priority: 4/5): He criticizes the Fed’s tendency to treat market dislocations as 'dysfunction' requiring intervention and argues that a simpler reserves-only framework with Treasury bills would better preserve neutrality and limit politicization.

Key Arguments: The Fed’s disappointing inflation response should be viewed partly through the lens of governance changes, not only forecasting or framework mistakes. Greater Board involvement in presidential searches likely selected for candidates more aligned with Board views and less willing to dissent publicly. Public dissent is an important discipline for policy debate; its decline weakens the robustness of FOMC decision-making. The Fed’s pandemic credit programs were fiscal in nature and politically controversial, consuming political capital that should be reserved for monetary independence. A central bank should generally avoid credit allocation because it creates distributional winners and losers and invites congressional and public backlash. The current operating system with four interest rates is unnecessarily complex and lacks a clear economic rationale for managing spreads. If spread distortions come from regulation, the right fix is to adjust regulation rather than have the Fed add more facilities and interventions. Greater politicization, whether through policy activism or partisan appointments, can make the Fed more vulnerable to future political retaliation.

Data Points: Number of Reserve Bank presidents with academic publications in monetary/macroeconomics: 7 in 2009; 2 by end-2022; 1 at present (Williams) - Used to illustrate the decline in academically grounded, independent voices among Fed presidents. Interest rate spread tolerance before the GFC: 10 to 20 basis points - Lacker notes that pre-2008 other overnight rates could fluctuate around the Fed funds target without requiring multiple administered rates. FOMC dissent transmission lag: 5 years - Transcript dissent was discussed as appearing only later, reducing immediate public accountability. Fed real interest rate during the inflation episode: -5% to -6% - Lacker argues the Fed allowed the real policy rate to become extremely negative instead of tightening sooner. Earlier real interest rate benchmark: -1% to -2% - Compared with the more moderate negative real rates that would have been more consistent with restraint. Fed policy framework adoption: September 2020 - Referenced in discussing the 2021 framework and forward guidance as part of the delayed inflation response. Search process timing change: Around 2010 - Lacker identifies this period as when Board involvement in Reserve Bank president searches became much stronger.

Pivotal Quotes: "The purpose of good governance is good outcomes." — Jeff Lacker: Opening rationale for evaluating Fed governance through the lens of the inflation surge. "The committee should ask itself whether different aspects of its decisions and decision-making are allowing sufficient scope for effective challenges to the majority view." — Gauti Eggertsson and Don Kohn: Quoted as a striking conclusion about the FOMC’s consensus-driven process and need for more dissent. "I think that's a watershed kind of crossing a red line for the Fed to countenance appointing somebody who served in, you know, one party's White House." — Jeff Lacker: His reaction to the Chicago Fed president appointment and the risks of partisan identification.

Implications: Listeners should expect more scrutiny of Fed governance, dissent norms, and balance-sheet tools. If the Fed keeps broadening its role, it risks weaker independence, more politicization, and less effective inflation control.