Tuesday, October 18, 2011

Bernanke: Effects of the Great Recession on Central Bank Doctrine and Practice

by Bill McBride on 10/18/2011 01:15:00 PM

From Fed Chairman Ben Bernanke: Effects of the Great Recession on Central Bank Doctrine and PracticeA few excerpts:

My guess is that the current framework for monetary policy--with innovations, no doubt, to further improve the ability of central banks to communicate with the public--will remain the standard approach, as its benefits in terms of macroeconomic stabilization have been demonstrated. However, central banks are also heeding the broader lesson, that the maintenance of financial stability is an equally critical responsibility. Central banks certainly did not ignore issues of financial stability in the decades before the recent crisis, but financial stability policy was often viewed as the junior partner to monetary policy. One of the most important legacies of the crisis will be the restoration of financial stability policy to co-equal status with monetary policy.
In other words, the Fed did not pay enough attention to regulation, and allowed the banks to engage in risky practices with far too much leverage.
The financial crisis of 2008 and 2009 will leave a lasting imprint on the theory and practice of central banking. With respect to monetary policy, the basic principles of flexible inflation targeting--the commitment to a medium-term inflation objective, the flexibility to address deviations from full employment, and an emphasis on communication and transparency--seem destined to survive. However, following a much older tradition of central banking, the crisis has forcefully reminded us that the responsibility of central banks to protect financial stability is at least as important as the responsibility to use monetary policy effectively in the pursuit of macroeconomic objectives.