The Fed was used during WWII and the post-war period to peg interest rates given the high amount of debt issuance. This lasted until March 1951 when the Treasury-Fed Accord allowed the Fed to gain independence to not have to fix rates. The new joint statement by the Treasury and Fed sets a framework for their interaction.
The credit crisis blurred the roles of the Treasury and Fed. Fed was buying assets and placing them n its balance sheet. The Treasury could have been financing these assets with Treasuries. The ed is supposed to focus on price stability and overall growth but when it is buying assets the objectives of the Fed are less clear. The issue is whether the Fed should hold risky assets from a bail-out. Specifically, the assets of AIG and Bear Stearns should ultimately be held by the Treasury.
The credit crisis blurred the roles of the Treasury and Fed. Fed was buying assets and placing them n its balance sheet. The Treasury could have been financing these assets with Treasuries. The ed is supposed to focus on price stability and overall growth but when it is buying assets the objectives of the Fed are less clear. The issue is whether the Fed should hold risky assets from a bail-out. Specifically, the assets of AIG and Bear Stearns should ultimately be held by the Treasury.
The Treasury and Fed agree to four main points:
1. They will work together to improve the functioning of the credit markets and reduce systemic risks.
2. The Fed should use its powers to broadly help credit markets during a crisis as the lender of last resort, but should not use its balance sheet to help specific credit sectors. This should be the responsibility of the fiscal authority.
3. The role of the Fed should still be monetary stability and this should not be affected by or constrained by the specific actions taken under extreme circumstances. The purchase of assets should not subvert its main monetary policy goals. Legislative action should be used to increase the powers of the Fed to meet its overall mission. The Fed would like the ability to issue its own debt as a way of reducing bank reserves.
4. The role of the Fed and other Federal agencies should be better defined to minimize the chance of a system failure.
The scope of this accord is broad and does not have many details but this is an important memo which will better define the roles of each player. This will provide more clarity for both the Fed and Treasury and should ultimately allow the Fed to have more flexibility when it needs to start to reduce reserves.
The scope of this accord is broad and does not have many details but this is an important memo which will better define the roles of each player. This will provide more clarity for both the Fed and Treasury and should ultimately allow the Fed to have more flexibility when it needs to start to reduce reserves.
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