How libertarian dogma led the Fed astray, by Henry Kaufman, Commentary, Financial Times: The Federal Reserve has been hobbled by ... major shortcomings that were primarily responsible for the current and several previous credit crises.
...My second major concern ... is the Fed’s prevailing economic libertarianism. At the heart of this economic dogma is the belief that markets know best and that those who compete well will prosper, while those who do not will fail.
How did this affect the Fed’s actions and behaviour? First, it explains to a large extent why the Fed did not strongly oppose the removal of Glass-Steagall restrictions. Second, it also helps explain why the Fed failed to recognise that abandoning Glass-Steagall created more institutions that were “too big to fail”.
Third, it diminished the supervisory role of the Fed... [The] Fed’s ... tilt toward an economic libertarian approach pushed supervision a notch down just at a time when financial market complexity was on the rise.
Fourth, as hands-on supervision slackened, quantitative risk modelling became increasingly acceptable. This approach ... was far from adequate. But it worked hand in glove with a philosophy that markets knew best.
Fifth, adherence to economic libertarianism inhibited the Fed from using the bully pulpit or moral suasion to constrain market excesses. It is difficult to believe that recourse to moral suasion by a Fed chairman would be ineffective. ...
Sixth, the Fed’s increasingly libertarian philosophy underpinned its view that it could not know how to recognise a credit bubble but knew what to do once a bubble burst. This is a philosophy plagued with fallacies. ...
By guiding monetary policy in a libertarian direction, the Fed played a central role in creating a financial environment defined by excessive credit growth and unrestrained profit seeking. ... At a minimum, the Fed’s sensitivity to financial excesses must be improved.