Should the Fed be Subject to Audit?

No, says Fred Thompson:

Keep the GAO away from the Fed

Socialist Sen. Bernie Sanders' and House libertarian Republican Ron Paul’s proposal to audit the Federal Reserve looks like it is moving toward enactment. It has gained the backing of Senate Majority Leader Harry Reid, Banking Committee chair Chris Dodd, and the White House and has been attached to the Wall Street reform bill. The proposal amends a 1978 law that prohibits the General Accountability Office (GAO, the audit, evaluation, and investigative arm of the U.S. Congress) from looking at deliberations and actions on monetary policy matters by the Federal Reserve.

This proposal:

• Requires a one-time GAO audit of the Federal Reserve’s loans and other financial assistance provided between December 1, 2007 and date of enactment, to assess: (1) operational integrity, accounting, financial reporting, and internal controls of the credit facility; (2) the effectiveness of the collateral policies established for the facility in mitigating risk to the relevant Federal reserve bank and taxpayers; (3) whether the credit facility inappropriately favors one or more specific participants over other institutions eligible to utilize the facility; (4) the policies governing the use, selection, or payment of third-party contractors by or for any credit facility; and (5) whether there were conflicts of interest with respect to the manner in which such facilities was established or operated;

• Requires a GAO audit of the governance of the Federal reserve bank system, including how bank directors are appointed; and

• Requires the Federal Reserve to publish information on its website on all loans and financial assistance provided between December 2007 and date of enactment under a number of Fed facilities.  The information would be required to provide the identify of those receiving assistance, the type of assistance provided, the value of assistance, the date of assistance, the terms of repayments required from the assistance recipient, and the rationale for providing the assistance.  Such information would need to be provided by December 1, 2010.

• Requires the GAO “to investigate what appear to be enormously disturbing conflicts of interest affecting Federal Reserve loans to failed financial institutions.”

In addition to raising concerns about conflict of interest on the part of the Federal Reserve, advocates of this proposal make the following factual claims:

“In the last two years, the Federal Reserve Board has lent several trillion dollars to banks and other private companies, financial and non-financial institutions. This exceeds the annual budget of the United States.”

“It has guaranteed trillions of dollars of liabilities and also made hundreds of billions of dollars available to foreign central banks through currency swap arrangements.”

“Neither the public nor members of Congress have any information about who benefited from these loans, guarantees, and swap arrangements.”

These claims are all true, especially the last. Unlike US government spending, which is governed by an appropriations process that is primarily concerned with who gets money and where it is spent and an accounting system designed to make sure that Congressional preferences have been satisfied, the Fed is a bank, governed by FASB rules, so its quarterly reports show its assets (primarily its loans) and its liabilities in considerable detail (things most government agencies cannot tell you), but not arrayed by client (although that info is obviously in its chart of accounts), income and expenses (things that most government agencies do not measure, but which are a lot more important than who, “got the money,” except maybe to a politician who is concerned about passing out favors), and a detailed flow of funds statement (something no federal government agency can provide). These general-purpose financial statements are independently audited and verified by the US Treasury.

The Federal Reserve has the information Congress wants, but does not want to make it public because, “who benefits,” is precisely the question that politicization of the Federal Reserve would entail.

Proponents  of GAO audits of the Federal Reserve make several additional claims that are not entirely true:

“There is no information available on the specific terms of the loans – the interest rate charged, the collateral posted, and whether or not they were repaid.”

These are almost all open market operations (not informal guarantees), so the terms are publicly available (you can bid against the Fed if you want).

“There is no information available on how it was decided who would qualify for the Fed’s help and who would be denied assistance.”

The Fed has announced its policies. I presume it complies with them; I don't really know. Its general-purpose financial statements will show the results of those policies and, to my way of thinking, that is what matters most. Indeed, it would be lovely if most of the agencies of the Federal government were equally transparent and could on occasion tell us what they have actually accomplished.

In other words, I am not a fan of this proposal. Normally, however, I wouldn’t have paid it much attention. But right now I am particularly sensitive to congressional use of the GAO to enforce fairness and to police conflicts of interest. For the past year, my colleague, Steve Maser, several students, and I have been studying the federal bid-protest mechanism, which gives any person with a pecuniary interest in the outcome of a source-selection standing to protest government’s choice of a supplier and often the power to delay execution of contractual relationships. The primary venue for bid protests is the GAO, although protests may also be made to the Court of Federal Claims and the district courts. We present our findings at the 7th Annual Acquisition Research Symposium this week in Monterey, CA.

Our main aim in studying bid protests is to identify changes that might make them more effective or mitigate the burdens they impose upon government’s suppliers, public officials charged with executing government contracts, and, ultimately, taxpayers. However, one significant finding that emerged as a by-product of this effort is that the GAO appears to be highly responsive to congressional constituency interests; its decisions appear to be biased in favor of domestic producers and a fortiori the constituents of pertinent congressional leaders in a way that the decisions of the courts are not.

Why did Congress designate the GAO, a congressionally affiliated agency, to execute the bid-protest process? The standard answer is that Congress did not trust the executive branch or even the courts to avoid conflicts of interest. A better answer might be that they didn’t trust them to attend to the right interests. One should be skeptical of congressional claims about the pursuit of broad public interests, especially where distributional issues are involved. Indeed, assigning the GAO to protect us against parochial political interests looks a lot like asking the fox to guard the hen house.

If Congress uses the GAO to influence government source selection decisions, why would that not also be the case with respect to the Federal Reserve’s loans and guarantees? Requiring the Fed to identify those receiving (and not receiving) support from the Federal Reserve, the type of support provided, its value, date, terms of repayments, and the Fed’s rationale for providing assistance seems to invite the same type of congressional intervention one observes with respect to source selections. That might not be bad, but it certainly wouldn’t be apolitical.