Central banking in the credit turmoil: An assessment of Federal Reserve practice

Central banking is understood in terms of the fiscal features of monetary, credit, and interest on reserves policies. Monetary policy – expanding reserves by buying Treasuries – transfers all revenue from money creation directly to the fiscal authorities. Credit policy – selling Treasuries to fund loans or acquire non-Treasury securities – is debt-financed fiscal policy. Interest on reserves frees monetary policy to fund credit policy independently of interest rate policy. An ambiguous boundary of responsibilities between the Fed and the fiscal authorities contributed to economic collapse in fall 2008. “Accord” principles are proposed to clarify Fed credit policy powers and secure its independence on monetary and interest rate policy. The Fed needs more surplus capital from the fiscal authorities to be fully flexible against both inflation and deflation at the zero interest bound.