Is Alan Greenspan the most powerful man in the world? Statements to that effect are increasingly common in the media and in casual conversations. Such comments make for dramatic reading, but they betray a misunderstanding of the difference between influence and power. Being in a situation where voicing one’s opinions can cause equity markets to rise or fall in the short run is not the same as having autonomous control over any important facet of the U.S. or international economy.
Furthermore, people who make such assertions fundamentally misunderstand the role and scope of power of a Federal Reserve Chairman in U.S. society. This may spring from lack of understanding of how the Federal Reserve System functions.
The Fed was structured by political compromises made in 1913, when the system was initiated, and in 1935, when the board of governors in its current structure was added. It is an enigmatic institution with two major components and many checks and balances, some intentional and others that arose spontaneously over time.
One component, the board of governors, is clearly an arm of the federal government. The seven members of the board are appointed by the president and confirmed by the Senate. A federal law, the Humphrey-Hawkins Act, requires the chair to report periodically to Congress on the state of the economy and on monetary policy.
At the same time, the twelve district banks are legally private. They are corporations chartered in twelve different states. Stock in these banks is owned by the private commercial banks that chose to join the system. District Bank employees do not have civil service status, and the banks pay real estate taxes to the local governments in which their buildings are located, something that is not true for any federal office building. Presidents of the District Banks report to boards of directors formally chosen by stockholding commercial banks.
While the system has several functions, including bank regulation, clearing checks, providing coins and currency and operating part of electronic fund transfer networks, its reason for existence is to implement U.S. monetary policy. That is, it controls the growth of the money supply, which in combination with market forces determines interest rates for businesses and consumers.
Monetary policy decisions are made by a 12-member Federal Open Market Committee which includes all seven members of the board of governors, including Chairman Alan Greenspan, and five of the 12 district bank presidents in a complicated annual rotation. The other seven presidents participate in FOMC meetings, but do not vote. These meetings are currently held eight times per year, roughly every six weeks. The most recent was on March 21 when the committee decided to raise its target for the Fed funds rate by one-quarter of a percentage point.
Legally, Greenspan is only first among equals on the FOMC. He has one vote out of 12. By custom and tradition, he certainly has more influence than that. Other governors and the district bank presidents give special deference to his position. But only up to a point. Dissenting votes are not unknown, particularly from district presidents. And on occasion, even the strongest-willed chair encounters opposition he cannot face down.
One of example of this was in February 1986, when two new governors appointed by Ronald Reagan defied Paul Volcker at an FOMC meeting. Volcker faced that rebellion down, but it contributed to his decision to effectively step down in mid-1987.
Chairing the Fed board of governors is somewhat like being the pope or a young infantry platoon leader. Like them, Greenspan’s power depends almost entirely on his ability to convince his colleagues and subordinates to do what he wants.
The platoon leader does benefit from the power of national laws and army regulations incorporating sanctions for disobedience. The pope benefits from a hierarchical structure, two millennia of tradition and a whole body of canon law. A Fed chair has to depend on his or her intellect and force of personality. There is no law, no written rule, stipulating that other FOMC members need follow his lead, only a few decades of tradition forged by previous chairs, Volcker, Burns, Martin and Eccles.
Therefore, a Fed chairman is a leader who must always look in his rear-view mirror to make sure his followers are really following. They usually do so as long as he stays in the middle of the road. But if he veers too sharply toward one ditch or another, they will desert him in a moment.
True, the cumulative effect of a series of small changes over time can be substantial. We might not have had the great inflation of 1965 to 1980 if someone other than Arthur Burns had chaired the board of governors for most of the period. And that inflation might not have been choked out of the system quite as single-mindedly if someone other than Paul Volcker had presided from 1979 to 1987.
Chairing both the board of governors and the FOMC, two distinct tasks, is clearly an important role in the U.S. and global economies. But the chair does not have any divisions at his disposal. Reputation, force of personality, and persuasiveness only go so far. Alan Greenspan’s musings at a rubber chicken banquet may move the Dow on the following day, but he has little true control over the course of history.
© 2000 Edward Lotterman
Chanarambie Consulting, Inc.