During the panic of 1907, J. P. Morgan stepped in and created a consortium of investors, and by so doing ended the panic and saved the banking system. Yet instead of showing gratitude to a great financier who put his own capital at risk in a time of panic, the chattering classes of the day reacted with bitterness. “Isn’t this too much power for one man to have?” they asked. “Shouldn’t the people themselves have an institution that can step in to be the lender of last resort?” “Wouldn’t a public entity more fully serve the public interest?”There are pros and cons to having a central bank. We have one, so let them do their job.
And so the Fed was born. Yes, conspiracy mongers, some Wall Street players participated in its creation, but that was more in the cause of minimizing the damage. The Fed was much more the brainchild of academic scribblers and progressive dreamers than of the debits-and-credits crowd. The bankers had to be sold on the idea. Yes, they would have to submit to more regulation. But as compensation they would get a true lender of last resort in a time of need.
That’s why I don’t get socialist Sen. Bernie Sanders. (That’s no right-wing epithet; he really is a socialist.) And that’s why I don’t get complaints about a “bailout for big banks” coming from the left. The liberals wanted a Fed and they got one. And as the chart above illustrates, it’s doing exactly what they created it to do: step in temporarily in times of turmoil.
Reasonable men can differ as to the utility of a central bank. Hamilton was for it; Jefferson against it. I tend to agree with Hamilton, but who am I to judge between such giants? The Jeffersonians among us, such as Ron Paul, have a point to make. A central bank is a very powerful institution, and power is dangerous. The Hamiltonians among us have a point, too. Panics also are dangerous, and we need institutions to minimize them.
See also video of Don Luskin on liquidity, bank runs and "the moral hazard state" and another video of the recent reduction of systemic risk from fed action. I think that market conditions have improved, but until credit spreads actually show further improvement, it is wise to be a little cautious.