The Fed is the Systematic Risk Regulator, Although Perhaps Not a Good One

If a bank with a security guard is successfully robbed, that does not mean the bank did not have a security guard. It just means that the security guard was not effective. The Fed has been acting as the systematic risk regulator for the U.S. financial system. How else can we explain the decision of Alan Greenspan to intervene in the unraveling of the Long-Term Capital Hedge Fund or his intervention to stop the 1987 stock market crash? Obviously, the Fed fell down on the job big time in the current crisis, but that is no reason to pretend that we did not have a risk regulator. If we want to avoid having this sort of problem happen again, we have to start by acknowledging that we did have a risk regulator who was unable to perform its job for some reason, just as the problem for the bank was that its security guard was for some reason unable to prevent the robbery.

--Dean Baker