Take away Fed's blank check

October 28, 2005|By DEAN BAKER

WASHINGTON -- Ben Bernanke, President Bush's choice to be the new chairman of the Federal Reserve Board, is a highly respected economist who is well qualified to hold the position. But the change of leadership, after Alan Greenspan's long tenure, provides a good opportunity to re-examine how the Fed works.

Specifically, Congress should use this changing of the guard to modernize the way the Fed is financed.

The Fed's finances are an obscure mystery known to only a tiny group of policy wonks. Unlike most government agencies, the Federal Reserve Board's funding is not authorized by Congress. Instead, the Fed survives off the money earned on the government bonds it holds.

Each year, it pays a portion of these earnings to its member banks across the country as a return on the money they have invested in the Fed. It also uses some of its earnings to pay for the agency's operations. The rest of the money the Fed earns is returned to the Treasury, where it came from originally as interest on government bonds.

In effect, the Fed is allowed to spend as much as it wants for its operations - at the expense of American taxpayers - because higher expenses means that less money is returned to the Treasury.

And the cost of the Fed has been rising. The agency projects that it will spend $288 million in 2006. This compares with a budget of just $156 billion in 1994. After adjusting for inflation, this is still an increase of more than 45 percent. While the Fed's budget is not a big item in the context of the entire federal budget, Congress has had major battles over smaller sums.

One of the biggest items in the Fed's budget is monetary and economic policy, a category that will cost $112 million in 2006. Much of this money goes to fund economic research. While the Fed needs some research to do its job, much of this research has no obvious relationship to monetary policy. For example, the Dallas Federal Reserve Bank recently published articles on trade and climate change, Social Security reform and the economics of biotechnology.

While these studies might have been useful, there is no reason that they should be paid for by taxpayers through the Fed. Congress should be able to determine the amount of economic research that it wishes to fund and then explicitly appropriate the money. The Fed should not be taking taxpayer money to finance this research through the back door.

To correct this problem, the Federal Reserve Board's budget should be subject to congressional approval just like other federal agencies. Would this jeopardize its independence? Unlikely. The Supreme Court has been relying on congressional appropriations for more than 200 years and no one from either political party has claimed that this funding restricts the court's independence from Congress.

In short, there really is no basis for allowing the Fed to have a blank check when it comes to funding its operations. The situation is a historical relic of the legislation that created the Fed nearly a century ago. With the Fed's leadership changing hands, Congress has a great opportunity to modernize the law and reform the Fed.

At a time when Congress is looking to trim money for children's health care, education and other important programs, there's no reason that taxpayer dollars should be funneled to the Fed without any oversight. If the new Federal Reserve Board chairman can't sell his budget to Congress, he's probably asking for too much money.

Dean Baker is co-director of the Center for Economic and Policy Research.

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