Exceptional fiscal expenditures, by their own terms, are intended to replace shortfalls in aggregate demand. And recent extraordinary monetary policy actions are intended to lower risk-free rates and grow balance sheet capacity to help offset the pullback by private financial intermediaries. But financial markets may extract penalty pricing if fiscal authorities are unable to demonstrate a credible return to sustainable budgets. And they are unlikely to look kindly on monetary authorities unless they decidedly and unambiguously chart their own independent paths. The Federal Reserve should not--and will not--compromise another kind of stability--price stability--to help achieve other government policy objectives.

Congress created the Federal Reserve System with independent regional Reserve Banks and a Board of Governors in Washington that provided checks and balances — checks and balances between centralization and decentralization, checks and balances between the public and private sectors, and check and balances between Wall Street and Main Street — all to ensure that policy decisions were balanced and independent.

Congress also wanted a central bank accountable to Congress, yet not subject to undue political influences. That is why Congress chose to make the Fed independent from the Treasury Department and the administration; why Fed Governors have 14-year terms; why the 12 Reserve Banks are structured more like banks than like government agencies; and why Reserve Bank employees, officers, and directors are generally restricted from engaging in political activities.

We need to draw a bright line once again between monetary policy and fiscal policy. The recent crisis has muddied that separation considerably and we must restore it. The Fed must not be seen by the public or the Congress as a piggy bank that can substitute for difficult fiscal policy decisions.

When a nation's treasury or finance ministry and its central bank work too closely together, there is a clear risk that the government's spending will end up being financed by the central bank's power to create money and that the public will become confused as to their respective roles...Independence is essential to central bank success and the Federal Reserve's current governance and decentralized structure has been an important contributor to ensuring that independence.

We have been very careful to calibrate our actions so as to accommodate the needs of credit markets and the economy, not political imperatives. We are well aware that some of our balance sheet additions, designed to pull markets and the economy from the edge, have raised a few eyebrows (like the $1.25 trillion in mortgage-backed securities we have pledged to purchase if necessary—although it has unquestionably driven mortgage rates to historic lows). And while it is not unusual for the System Open Market Account to buy Treasuries along the yield curve, the FOMC’s decision to purchase $300 billion in U.S. Treasuries—a decision made to improve the tone in the private credit markets—has been viewed by some as skating a little too close to the edge of political accommodation.

I can tell you that the FOMC is well aware of the doubts being voiced about its intentions. I can also tell you that nobody I know on the committee wants to maintain our current posture for any longer and to any greater degree than is minimally necessary to restore the efficacy of the credit markets and buttress economic recovery without inflationary consequences. Indeed, as I speak, we are studying ways to unwind our balance sheet in a timely way.
...
[T]here are concerns that the Federal Reserve will be politicized. For example, some have called for increased congressional involvement in the selection of Federal Reserve policymakers and a reduced role for member banks. I trust that the Congress will resist this initiative and not upset the careful federation that has for so long balanced the interests of Main Street with those of Washington, just as we at the Federal Reserve must resist the urgings of some to accommodate the short-term financing needs of the Treasury.

Bullard told reporters after the speech he supports the adoption of an inflation target to prevent expectations for prices from falling too far. A target for inflation “would be helpful at this time,” he said.

“You have to consult with all players, including Congress,” he said. “If they don’t want to do it, then we don’t do it.”

As reported by Bloomberg News

Unless the python that is the U.S. economy can quickly pass the recent burst of cost-push pressures, we risk a reinforcing spreading of inflationary impulses and expectations. Should this happen and the Fed were to fail to address it, we would run the risk of losing the public’s confidence in our ability to constrain inflation. Then the great editorial writers in this country, to say nothing of Congress and the American people, will be calling for all of us—doves and hawks alike—to be shot (metaphorically speaking, of course).

{In reference to separating the Fed from other institutions by adding responsibilities} I think it's likely to emerge as a theme. I think it ought to be front and center in the discussion about financial regulatory reform and restructuring if Congress would like to go down that path, restructuring regulatory responsibilities at the federal level. Our paramount responsibility is keeping prices stable, inflation low and steady. There are other responsibilities we have accumulated over the years. And we have, as a result of our history, where we came from, and various responsibilities that have been given to us. But our ability to exercise independent judgment about the level of the policy rate, I think, is quite important. And I do see some merit to the argument that adding responsibilities can threaten to dilute the independence that we need for that responsibility.

I just want to note, though, that to the extent that we improve the social safety net in this country, which is important on its own, I think we also give more flexibility to monetary policy, because the Federal Reserve would then be freer in times when it felt it was necessary for other reasons to slow down the economy in the knowledge that this would not have, as it has today, a disproportionately negative effect on a lot of people who are more vulnerable economically.

"The Fed will want to be as low-key and invisible as possible and that means the Fed will not want to change the funds rate ahead of the election," said William Poole, who retired in March as president of the St. Louis Federal Reserve Bank after a decade on the Fed's rate-setting committee.

"But I believe that if there is a compelling case, the Fed will do so," he said. "I do not believe the Fed will abstain from necessary policy action because of the election."

The Committee on Banking, Housing and Urban Affairs…raised serious concerns about certain actions you have taken.  Specifically, it was noted that Congress has neither granted the Federal Reserve the authority to permanently open the discount window to investment banks with primary dealer status, nor authorized the SEC’s Consolidated Supervised Entities (“CSE”) program through which it regulates investment bank holding companies that own depository institutions.

 
Given the limited authority of the Fed and the SEC to regulate investment banks with primary dealer status, and Congress’s ultimate responsibility for formulating financial regulatory policy, we ask that no action regarding implementation of the MOU be taken before we can determine that it is in the best interests of our nation’s economy and the well being of its citizens.  While we recognize that oversight of investment banks with primary dealer status is temporarily necessary for the proper implementation of the PDCF, it is Congress’s role to determine if and how any alterations to our financial regulatory system should be undertaken.

(Co-signed by Sen. Shelby)

Since the credit crisis began last August, the Fed has expanded the volume and types of loans it is willing to make to banks and securities dealers -- loans that are backed by a wide variety of collateral from subprime mortgages to student loans...

Mr. Volcker, testifying on responses to the credit crisis at the Joint Economic Committee of Congress Wednesday, said such activity "has not been the tradition of the central bank and I think that is an issue for the long run for the independence of the central bank. If it is going to be looked to as the rescuer or supporter of a particular section of the market, that is not strictly a monetary function in the way it's been interpreted in the past."

As reported by the Wall Street Journal

Another interesting example, which I do not have time to discuss in detail here, occurred with the granting of operational independence to the Bank of England in May 1997 after it had adopted an explicit numerical inflation objective.²³ In explaining the decision to grant operational independence to the Bank of England, the government specifically pointed to the Bank's successful performance in providing forecasts and clear explanations of the likely effects of a range of policy alternatives, thereby increasing accountability and making the central bank more responsive to political oversight.

The Federal Reserve Board candidates awaiting Senate approval are ``highly unlikely'' to be confirmed by the legislature before a new president is elected this year, Dallas Fed Bank President Richard Fisher said.

``Whether or not that gets done before the political election is for you to guess...  The answer is highly unlikely.''

As reported by Bloomberg News

Democratic Rep. Marcy Kaptur of Ohio launched into a lengthy question to Ben Bernanke during the Fed chairman’s House testimony about community banks, securitization of home loans and investment banks role in the crisis, ending with this point: “Given that you were the former CEO Of Goldman Sachs…”

She was quickly stopped by the laughter in the room.

“Did I get the wrong firm? Where were you?” she asked, before being corrected that she was thinking of Treasury Secretary Henry Paulson.

Said Mr. Bernanke: “I was CEO of the Princeton Economics Department.” '

As reported by the Wall Street Journal

In a democracy, the public exercises control over government actions, and policymakers are accountable, which requires that the goals of monetary policy be set by the elected government. Although basic democratic principles argue for the government setting the goals of monetary policy, the question of whether it should set goals for the short-run or intermediate-run is more controversial. For example, an arrangement in which the government set a short-run inflation or exchange rate target that was changed every month or every quarter could easily lead to a serious time-inconsistency problem in which short-run objectives would dominate...

 Whether the central bank or the government should set medium-term inflation targets is therefore an open question.