We're better off without Congress' proposed 'financial reform'

WASHINGTON — Ever since its creation in 1913, the Federal Reserve has grappled with a daunting political contradiction. The Fed is charged with preventing the collapse of the banking and financial system, whose health is essential for the "real economy" of production and jobs. But financial bailouts usually occur when mistakes or misdeeds by bankers and investment professionals make them public pariahs. To do its job, then, the Fed protects — or seems to protect — an unpopular, disgraced and undeserving group. We are now witnessing this contradiction in full bloom.

The Fed has become a congressional scapegoat for assorted economic frustrations: 10.2 percent unemployment, expensive rescues of fragile financial institutions (AIG, Bear Stearns, Citigroup), outsized Wall Street bonuses and the crisis itself. The denunciations transcend rhetorical outbursts. The House Financial Services Committee recently voted to require the Government Accountability Office (GAO) to "audit" the Fed's monetary policy — its efforts to influence interest rates and credit conditions. In the Senate, Christopher Dodd, chairman of the Banking Committee, has proposed stripping the Fed of all powers to regulate financial institutions — its actions to police lending and management practices. These powers would go to a new agency.

The Fed backlash is bipartisan. Rep. Ron Paul, a Republican and libertarian, proposed the GAO audit, which he sees as a first step toward abolishing the Fed ("End the Fed" is his latest book). Paul favors resurrecting the gold standard and combining it with private money; Wal-Mart could issue currency. His views are long-standing, principled — and wholly impractical. Dodd, of course, is a Democrat. Much Fed-bashing simply indulges Congress' impulse to blame someone else for anything unpleasant.

Lost in this politically charged climate is the reality that the Fed, more than any other government agency, arguably stopped last fall's financial panic from becoming a global depression. The Fed pumped out more than $1 trillion in new credit, created special lending programs to support faltering segments of the credit markets (commercial paper, money market funds) and rescued financial institutions, notably AIG, whose bankruptcy might have triggered a chain reaction of failures. These were seat-of-the-pants responses, taken in the midst of crisis and pervasive uncertainty. We will never know what might have happened without them. The second-guessing now occurs when there's less fear and more information.