BrianGarst.com

Writing in the New York Times, Yale University economics professor Robert Shiller says it’s time for the Fed to take on a new role: as overall economic watchdog and cheerleader.

The Fed Gets a New Job Description

THE plan of Treasury Secretary Henry M. Paulson Jr. to overhaul the financial system includes a crucial proposal: it would officially transform the Federal Reserve into a “market stability regulator” rather than merely a banker’s bank.

This aspect of the Treasury plan is a natural step in a historical trend. The Fed is no longer just a regulatory agency presiding over a narrow group of businesses called banks. Rather, its mission increasingly is to maintain macro confidence — confidence that the entire financial system is functioning well as part of the whole economy.

…Mr. Bernanke’s own analysis of history, as well as that of other economists, emphasizes the essential importance of confidence in financial institutions and the subtlety of the issues involved in promoting such confidence.

…CONFIDENCE is too complex for the consumer confidence indexes — which are based on surveys of ordinary people — to measure adequately. It has to do with confidence in specific institutions — confidence that they will behave properly and that the leaders who are trying to promote others’ confidence will act in a constructive way.

Formalizing the Fed’s transformation into a market stability regulator makes sense. The Fed has already begun to play this role. And by doing so, it is taking a significant step toward reducing the fundamental instability of our economy.

The professor correctly acknowledges the necessity of confidence for the proper functioning of a capitalist system, but he doesn’t provide much reasoning as to why expanded powers at the Fed is the best solution. The temptation to ease fears by promoting a new all-encompassing economic watchdog, and further supplanting the invisible hand, is always greatest when the economy takes a downturn. We barely fought off the worldwide march toward economic planning, which left numerous nations in ruin, at the beginning of the 20th century. Thus, it is at such times when we must be extra cautious of the choices we make and the changes we call for. Is it really good for the economy to hand over so much power to an independent and only quasi-accountable body? Is it good for democracy?