Richard Whalen

As the U.S. struggles with a domestic credit crisis spreading to global markets, it is no time to play nasty, crippling partisan politics with the Federal Reserve Board’s ability to function and make crucial financial policy decisions.

That’s what Sen. Christopher J. Dodd of Connecticut, the Democratic Chairman of the Senate Banking Committee, is doing. The Fed’s policy-making Board of Governors is operating with two of its seven seats vacant. President Bush submitted the nominations of Elizabeth Duke and Larry Klane to the Senate for confirmation last spring, but Dodd has bottled them up in his Committee. Aides say he intends to hold them through the November 2008 election, when he hopes a Democratic President will be elected. If so, that President would be able to fill as many as four Fed seats.

According to veteran Fed-watcher David Kotok of Cumberland Advisors, in addition to the two Bush nominees Dodd is holding up, a Democratic president could make Fed Chairman Ben S. Bernanke a political scapegoat and decline to reappoint him as Chairman. That would cause him to resign the Chairmanship in 2009 as well as his seat on the Board, creating two more vacancies to fill.

Shortchanging the Fed at a critical time may seem clever partisan politics, but it’s shortsighted and potentially dangerous for America’s economy and the dollar. The Fed’s Board sets the discount rate and conditions for emergency loans to troubled banks, of which there are many with household names today.

Under the Fed’s “sunshine” rules, when any three of the Board’s five sitting members assemble, it must be considered a formal meeting. If Bernanke “were to call such a meeting,” Kotok writes, “markets would be boiling about why and what. They are already fragile and reacting to any rumor.” As the result of Dodd’s politics-first tactic, essential internal Fed “dialogue is restrained at the very time it is most needed to be freewheeling and expansive.”

On November 8th, Chairman Bernanke came as close as any central banker in our memory to an announcement of the likely arrival of a recession. In his testimony before the Joint Economic Committee, Bernanke noted that the policymaking Federal Open Market Committee (FOMC) found “financial conditions had improved somewhat after the September (half-point rate cut) … But the market for nonconforming mortgages remained significantly impaired and survey information suggested that banks had tightened terms and standards for a range of credit products….” The FOMC continues to have two vacant seats.

Only weeks ago, the crisis in the “subprime” mortgage sector suddenly burst onto the global economy stage. In carefully measured words, spoken with academic precision and in the understated past tense, Bernanke told the JEC: “…Overall, the FOMC expected that the growth of economic activity would slow noticeably in the fourth quarter from the third quarter rate. Growth was seen as remaining sluggish during the first part of the next year….”

Capitol Hill speculation on Bernanke’s tenure and likely Democratic replacement reduces him to lame-duck status with more than a year left in his term. During the televised presidential debates, butter wouldn’t melt in Senator Dodd’s mouth as he invoked the national interest. Let Senators Dodd and Clinton and former Senator Edwards answer this question: Why is the Fed being held hostage?

Playing cheap partisan politics with the Fed’s operations deepens the credit crisis and risks effective stimulus of our slowing economy.