Great Leap Forward

What Do You Want in a New Fed Chair? Hint: Larry Summers Doesn’t Have It

*Update: It has been reported today that while Summers is being vetted, the process has not even begun for Yellin. There is some speculation that the choice of Summers will be announced very soon.

I was recently asked by an interviewer who’s going to replace Chairman Bernanke. I declined to predict because I don’t do horseraces. You’d have to be inside the beltway to understand which way President Obama is leaning. There’s not much doubt that Wall Street is pulling for one of its own, Larry Summers, and Wall Street usually gets what it wants.

However, by now you’ve probably seen “the memo” in which future Treasury Secretary Geithner told Undersecretary Summers that it was time to call up all of Wall Street’s big boys to make the final push to completely deregulate the global financial system. Of course, this is the second time Summers has raised eyebrows because of the contents of “the memo”. The first time was back in 1991, when he encouraged dumping of toxic waste in poor countries on the argument that since those people earn lower wages, the economic costs are lower:

DATE: December 12, 1991
TO: Distribution
FR: Lawrence H. Summers
Subject: GEP

‘Dirty’ Industries: Just between you and me, shouldn’t the World Bank be encouraging MORE migration of the dirty industries to the LDCs [Least Developed Countries]? I can think of three reasons:

1) The measurements of the costs of health impairing pollution depends on the foregone earnings from increased morbidity and mortality. From this point of view a given amount of health impairing pollution should be done in the country with the lowest cost, which will be the country with the lowest wages. I think the economic logic behind dumping a load of toxic waste in the lowest wage country is impeccable and we should face up to that….

It goes on in the impeccable amoral and tone deaf style you expect from Summers—who later argued that women are underrepresented as tenured faculty in engineering and science because “there are issues of intrinsic aptitude” involved (you see, women are just congenitally inferior).

In any event, Geithner pushed Summers to call up the top financial sector CEOs to push the deal approved by the securities industry. Geithner complains that banks are not entirely on board—no wonder because the plan would finish off the commercial banking sector, letting investment banks achieve global dominance. No doubt Summers relished and completed the task. (You can read the memo here:; and Greg Palast’s commentary here:

The rest, as they say, is history. Together with Bob Rubin and Alan Greenspan, Timmy and Larry put all the ducks in a row to set us up for the global financial crash.

And so now Larry is baaaaaaaaaaaaaaaaack. He’d like another chance. He may well get it.

But let me turn to what we should want in a central banker, rather than trying to pick the winner of the contest. To understand the qualities desired, we need to know what central bankers should be able to do. There is a lot of misconception over the role played by the Fed in our economy.

The power of the central bank is substantially less than usually imagined, or at least what influence it has is not in the areas usually identified. It has little direct impact on inflation, unemployment, economic growth, or exchange rates. It does set the overnight interest rate, but there is no plausible theory nor evidence that this matters very much. The “interest rate channel” is weak–normally the Fed is raising rates in a boom, when everyone is enthusastically borrowing and spending, so higher rates do not diminish optimism. In a slump, when the Fed normally lowers rates, it is too late–pessimism has already taken hold.

The way that raising rates actually can work is by causing insolvency of those already heavily indebted–by pushing payments on floating rate debt above what can be afforded. There is no smooth relation between borrowing and interest rates that can be exploited by policymakers. Rather, they can cause a financial crisis if they are willing to do a “Volcker”: push rates so high that defaults snowball through the economy.

Over the past three decades, where the Chairman’s influence has been significant has been in the area of regulation and supervision of the financial sector. Unfortunately, three successive Chairmen have failed to pursue the public interest preferring instead to promote Wall Street’s interest. This has been disastrous.

Obviously Chairman Greenspan was the worst. From his glowing endorsement of the worst S&L crook, Charles Keating, to his testimony in favor of prohibiting regulation of credit default swaps, Greenspan always took the side of de-regulation and de-supervision of financial institutions on the belief that they could “self-supervise”. Greenspan is ground zero when it comes to the GFC.

From this it becomes obvious that the foremost expertise and quality that one would look for in a good central banker would be knowledge and expertise of bank regulation and supervision. One would also want a predisposition to actually do the regulation and supervision that is necessary. Larry Summers is the worst candidate one could imagine. At the Treasury, he pushed hard for Wall Street’s interests. After leaving government “service” he became a highly paid spokesmodel for Wall Street. He has neither the expertise nor the predisposition that is required of a good central banker. Indeed, his instincts, preferences, and pocketbook all ensure that he will not regulate or supervise financial institutions.

The other favorite candidate, Janet Yellin is much better in that she has not–so far as I know–been coopted by those she would need to regulate and supervise. I expect that she would do a reasonably good job. I’d prefer someone with experience in the areas I have mentioned. However, I realize that because the conventional view is that central banking is all about guiding the macroeconomy (inflation, unemployment, growth) the search will be narrowed to candidates with presumed expertise in macroeconomics. Yellin (like Summers) fits that bill. She has published a large body of respected macroeconomic research.

In my view, neither Summers nor Yellin has a very good grasp on the macroeconomy–as evidenced by their research. They work in the New Keynesian paradigm which deviates only marginally from the Neoclasscial economics that has dominated thinking for the past four decades or so. The Global Financial Crisis should have banished it from academia and policy-making, but such as not been the case. New Keynesians never saw it coming. They still do not understand what happened. Their paradigm is the wrong one for the economy we actually have.

OK, who do I want? I’d take Elizabeth Warren. Her instincts are right. She understands financial institutions. She wants to regulate and supervise their behavior. She’s not enamored with silly macro models that shed no light on the way our economy actually operates. But I know there’s no chance she’ll get the nod. Heck, Wall Street raised such a fuss that she couldn’t even head the darned consumer protection agency that she created. They will never let her get her hands on regulating them.

Forget the Fed. We won’t get anyone who will do what needs to be done. We’ll carry on with the ridiculous belief that the Fed exerts significant control over the macro economy through its judicious interest rate changes, and by stroking the expectations fairy to align views of the future. Like the toddler with the plastic steering wheel attached to her car seat, the Fed Chairperson will think she/he is driving the car. Fortunately, what is usually classified as monetary policy doesn’t matter much. Otherwise we’d be deep in the poo. Yes, we already are. We’d be deeper.

What does matter is getting the Vampire Squid under control. That will not come from the Fed or Treasury. It must come from our elected representatives. Before you write in to call that naïve, let me say that I know that’s a task for Sisyphus.

What can a progressive do? Support Elizabeth Warren’s attempts to protect us from Wall Street. Demand greater transparency at the Fed. Push elected representatives to push for more accountability. The arguments for Fed secrecy and independence do not stand up to scrutiny. Much of what the Fed (and Treasury) did in the aftermath of the GFC is truly horrifying. It was done behind closed doors. It was not necessary. It propped up Wall Street and allowed the banksters to return to all of the practices that created the GFC.

We will crash again. That will open up an opportunity to get it right. We have to prevent the Fed (and Treasury) from a repeat performance in the coming next great crash.


23 Responses to “What Do You Want in a New Fed Chair? Hint: Larry Summers Doesn’t Have It”

OhMyAugust 25th, 2013 at 2:31 am

I am disappointed that MMT missed the opportunity to engage Krugman on banking, monetary base and IS-LM issues. He is willing to discuss it, why not say why and how his view is off and why it matters?

HepionAugust 25th, 2013 at 8:20 am

Here in Europe our leaders have given all responsibility of economic management to our central bank. How do we get out of this paradigm?

Lake Erie LiberalAugust 26th, 2013 at 6:24 am

Professor Wray,

I just recently read your post about Minsky vs. Krugman here:

I wasn't sure if you were still responding to comments on that article any more so I thought I would post my question here. I apologize if it is off-topic. Feel free to delete if so.

In that post you point out how Minsky said that anybody and everybody is a money creator but the problem is in getting your money excepted….IOU's from banks with reserve accounts at the FED are readily accepted and can be used to pay tax liabilities, etc.

So based on that I wanted to run a hypothetical by you.

Suppose that Alan Greenspan has read Bill Black's book "The Best Way to Rob a Bank is to Own One" and he decides that the highest calling of his Randian aptitude would be to obtain a bank charter and engage in a kind of control fraud with a partner named Bob Rubin and rob his own bank of newly created money.

Greenspan decides to apply for a national bank charter from the O.C.C. and he is immediately granted one because he is the Maestro after all. He applies for a Routing Number from Accuity Solutions, the ABA's official routing number registrar and applies for a Reserve Account at the FED and he is immediately granted that as well.

Shortly thereafter, a fellow wiz, Mr. Rubin comes into Mr. Greenspan's bank and shows his impressive resume and a business plan for a hedge fund that appears like an unbelievable sure thing. Mr. Greenspan, fully in on the racket, is so impressed that he grants Mr. Rubin a loan in the amount of $1 billion U.S. Dollars and Mr. Rubin promptly deposits those dollars into Greenspan Bank.

Greenspan Bank now has the $1 billion deposit liability whereas Rubin has the $1 billion loan liability.

Greenspan Bank promptly discharges Mr. Rubin's loan liability but keeps it's deposit liability of $1 billion dollars and is insolvent.

Nevertheless, Greenspan goes to the FED and borrows enough reserves to settle a Wire Transfer of Rubin's $1 billion to his other account at Citibank.

Greenspan Bank goes bust but $1 billion was created for Rubin and transferred to a different bank. Mr. Greenspan himself is unscathed except for say the $1 million in capital he started the bank with.

Mr. Rubin immediately must recognize the $1 billion as debt-discharge income and pay 40% to the Federal Government for the current year and winds up with $600 million.

Mr. Rubin then gifts Mr. Greenspan $375 million upon which $150 million in gift tax will be paid in 2013. Both Rubin and Greenspan end up with $225 million in new assets in the form of bank deposits that were initially created from a large loan that was discharged.

If we accept that there is not proper oversight and/or regulation in this scenario and the knowingly fraudulent loan won't be prosecuted, what is there to stop this from happening? Why can a bank/banker not engage in this type of high stakes control fraud….creating a loan well above their levels of capital that in turn creates a deposit that they end up running off with this newly created money?

It seems to me these individuals would be able to create "money-things" like all of the rest of us except they could do it in the form of the most readily acceptable money-thing.

FWIW I like the idea of Randy Wray for Fed Chair! Watching the heads explode in CNBC would be reason enough!

L. Randall Wray L. Randall WrayAugust 26th, 2013 at 11:55 am

Erie: you have pretty much outlined the S&L scam. Developers took over S&L’s, made bad loans to their development projects, drove the thrifts into insolvency and walked away from them.
read for example martin mayer’s book on that crisis–sorry too early in the morn for me to remember the title–and bill black’s more recent: the best way to rob a bank…

Matt McOskerAugust 26th, 2013 at 1:13 pm

Summers admitted to Warren Mosler that he did not understand reserve banking. At least Bernanke, based on my reading, understands how the monetary systems/fed works for the most part.

OhMyAugust 26th, 2013 at 2:18 pm

Yeah, that was over a year ago. Recently Krugman came back to the topic in a more specific way and engaged Cullen Roche, Interfluidity and others joined the discussion, Cullen Roche is all over it and MMT is nowhere to be found. Is Tobin 1982 a helpful model? Krugman believes so. MMT seems uninterested in engaging major economists. Whatever one likes to think about Krugman he is 1) widely read, 2) appearing to be attempting to learn and adjust his beliefs.

Tyler HealeyAugust 26th, 2013 at 5:39 pm

Elizabeth Warren voted to "repeal or reduce the estate tax, but only if done in a fiscally responsible way.” A hero for the working class she is not.

Additionally, her monetary policy would be the same Friedmanism practiced by Bernanke.

L. Randall Wray L. Randall WrayAugust 26th, 2013 at 7:31 pm

Tyler: do you have a point? The chair of Fed is not in charge of fiscal policy. If you read my piece, it was focused around regulation and supervision of banks. That is Warren’s area. As to monkeying around with interest rates, I don’t think they matter enough to care. Give me a good bank regulator and I’ll forgive her if she thinks she’s got an interest rate steering wheel.

L. Randall Wray L. Randall WrayAugust 26th, 2013 at 7:34 pm

OHMY: And so your point is that MMTers should react on your time schedule? Or CR’s? I cannot speak for others, but it isn’t always possible, nor desirable. I saw Krugman’s piece and will give a considered response when I’ve got the time. As to whether Krugman learns from these responses, the jury is out. Even his admission that he “forgot” about tobin’s paper tells us a lot about his knowledge of monetary theory. No one who is familiar with the field would “forget” Tobin’s paper.

Tyler HealeyAugust 26th, 2013 at 7:52 pm

My point is that perhaps we should not trust someone who voted for a tax cut for the rich to properly regulate the financial activities of the rich.

Regarding interest rates, if they don't matter enough to care, why does Warren Mosler say ZIRP would enable the federal government to lower taxes that much more?

L. Randall Wray L. Randall WrayAugust 26th, 2013 at 8:33 pm

Lower rates mean lower govt spending means to maintain same level of AggD you need a tax cut.

Warren is by no means perfect. Certainly as a politician she has made, and will continue to make, compromises. But she’s focused on what is important in a Fed Chairwoman.

OhMyAugust 26th, 2013 at 8:44 pm

Not sure, why the testiness, I was just trying to help MMT get exposure. And I think how it works nowadays is you want to jump into the fray right when the debate is raging. So it is not my schedule, but rather Krugman's. 😉

You don't have to convince me Krugman is not well versed about the monetary system, I saw him talk total nonsense during the debate with Keen.

JMarcoAugust 26th, 2013 at 9:35 pm

Yes. Elizabeth Warren would make the idea Federal Reserve regulator. She would scare the b-jibbes out of Wall Street. But that's dreaming. It seems to me that Pres. Obama really believes his old Wall Street advisers know whats best for US economy. If Obama gives up on Summers he will find some else from Wall Street to be chairman. With Elizabeth Warren on Senate Finance Committee at least we citizens have someone in the Senate that seems to care about changing/regulating Wall Street. Her voice and intellect are sorely needed there.

karenAugust 27th, 2013 at 11:04 am

I prefer Sheila Blair to Warren, because of her experience with banks.

She too bowed out of the FDIC due to the corrupt old boy system –

doesnt anyone remember the rapacious acts abetted by Summers in the ex-USSR, or his precious misogynist comments at Harvard? the only reason he is even considered is not for his expertise, but for his biased immorality.

TJ ScottAugust 27th, 2013 at 11:59 am

I'm reading "The 7 Deadly Innocent Frauds…" for the first time. Although I appreciate Austrian Economics I like to expose myself to all points of view. This book make a compelling argument. Anyway, I read in this book that Mr. Mosler in a meeting with Tom Daschle and then Assistant Treasury Secretary Lawrence Summers the latter admitted to not understanding reserve accounting. Hopefully he does now. Perhaps that should be a question in his confirmation hearing….or does he even have to endure that process?

J WhiteAugust 27th, 2013 at 3:23 pm

It seems clear to me regardless of ones politics or even grasp of the esoteric macro debates, Larry Summers, we can all agree is bright but arrogant, and is by now completely in the pockets of Wall Street given his past few years cashing in. I understand the concern over Ms Warren- she is after all, less than honest and the very definition of arriviste- in a word, self compromised – sheila bair is the obvious choice and as such it wont happen….left of center voters are beginning to wake up and realize President Obamas ability to win two elections predicated on fact that when it coems t substance, he is not really very progressiev and this was acceptable t o large majority of electorate. Hes quite conventional, obviously likes playing golf rather than engaging in the more important foreign policy necessities of the office, and its implausible to expect much from his admn at thsi point- hes a young guy, $199k pension doesnt go very far in chicago and does anyone xpect Mrs Obama to ever hold down paying job again ? he wont appoint sheila bair-that would close out too many lucrative gigs, speeches and opportunities to fund raise or even be employed /on corporate boards in the future. None off this is to vilify Mr Obama-hes very conventional and mainstream for a prresident, but we should be realistic. The change we wish to become was cosmetic in every sense of the word. He never had the courage or appetite to really reform Wall Street, even if he had the convcition…(what politicaan oother than Warrrren and Bair- who is really not a politician, brava !) that's not who this guy is…

mgfletcher1September 15th, 2013 at 7:10 pm

The question is 'to whom shall we award the poisoned chalice?'
'Revolving door' Larry is of course out of the question.
Bernanke was handed it by Greenspan, who had presided over bubbles he either couldn't see or did not know whether to prick. It is said that Bernanke's intimate knowledge of the 1930's has held him in good stead. However, it might have been better to also focus on the 1920's. Germany, Austria and Hungary in particular. Bernanke has turned out to be America's and the World's 21st Century Dr. Havenstein. The fact that inflation has not yet reared its head is fortunate. But the same problem that Dr. Schact confronted must soon be confronted again. Money printing has only enabled an anaemic 'bubble recovery' but at the cost of much collateral damage. Even the hint of possible exit (tapering) threatens to prick the Bernanke bubbles.
Maybe Janet Yellen will do the least harm…………………..