Annual Report 2009 | Federal Reserve Bank of St. Louis

A Series of Checks and Balances

Independence + Accountability

The tricky issue is that accountability means being subject to some political oversight, which weakens the perception that the central bank is independent. So, there is an inherent tension between having independence to conduct policy and being accountable to the electorate. Furthermore, if central bankers are not elected, then they must be chosen in another way. The question was, by whom?

In the United States, there has long been a tension between the states and the federal government. States were leery of giving too much power to the federal government out of fear that this power would be abused. Yet, the federal government was the body charged with the welfare of the entire nation. In response to this conflict between the states and the federal government, a series of checks and balances was implemented to ensure that policy was conducted in a way that protected both interests. So, it is not surprising that similar checks and balances would come into play when deciding who selects the nonelected officials to run monetary policy and to whom they would be accountable. Thus, while the Federal Reserve was created to run monetary policy, it was given a complicated system of checks and balances to deal with conflicts between the states and the federal government, as well as between the legislative and executive branches of the federal government.

What are these checks and balances? First, rather than have a single central bank, the founders created a system of central banks. This system includes the Board of Governors in Washington, D.C., and 12 regional Reserve banks. This arrangement avoided the problem of having strong federal government control of the central bank. The idea behind the regional banks is that the further these policymakers are from the day-to-day political process, the more likely that monetary policy decisions would be made on economic grounds rather than political considerations. Furthermore, the policymakers would be less susceptible to pressures to create seigniorage. The opposite concern is that the regional banks would focus too much on their own districts. Therefore, the Board of Governors (seven members) was created to ensure that the entire nation's welfare was considered. Thus, policy was to be set by the 12 presidents of the regional banks (those who served as direct contacts with the states) and the seven members of the Board of Governors (those who were intended to have more of a national view).

Second, who would choose these 19 policymakers? One concern of the founders was that if all of the central bankers are political appointees of the president or Congress, then the Fed would not have the independence it needed to conduct policy in an appropriate manner. It therefore was decided that the presidents of the regional banks would not be political appointees but would be chosen by the citizenry of the district in a nonelectoral manner. This ensured that the presidents would be independent of the political process and less likely to engage in seigniorage creation. One method of choosing regional presidents in a nonelectoral manner was to create a local board of directors for each of the 12 regional banks. Each board, in turn, would select its regional bank president. To achieve a broad perspective on the economic well-being of each district, the board was to be composed of individuals from a wide range of sectors. This ensured that the regional bank presidents would be chosen based on their professional qualifications as opposed to their political connections or sectoral ties.

On the other hand, because 12 of the 19 policymakers were not political appointees, there was concern that there was not enough accountability to the electorate. Thus, it was decided that the seven members of the Board of Governors should be political appointees. The president would have the power to nominate the governors, and the Senate would have the power to confirm them. Consequently, this procedure for selecting the 19 central bankers of the Federal Reserve System provided for both independence and accountability.

Third, a common method for politicians to entice government agencies to carry out specific political agendas is to threaten to cut the agencies' budgets. Thus, no matter how far the presidents of the regional banks were from Washington, D.C., or how they were chosen, if the Federal Reserve did not have budget autonomy, then Congress could always threaten to cut its budget to get the Fed to carry out monetary policies that Congress desired. This power of the purse strings would undermine the Fed's independence and credibility to keep money creation low and stable. To counteract this possibility, Congress gave the Federal Reserve budget autonomy when it created the Fed in 1913. The Fed was given the power to earn its own income and spend it without government interference.2 However, recognizing that the Fed was creating seigniorage for the nation as a whole, Congress directed the Fed to return any excess income to the federal government. To guarantee that excess income was returned, the Fed's income statement and balance sheet had to be transparent and auditable, not by Congress, but by an independent auditing agency to prevent political machinations. Again, checks and balances prevailed.

Fourth, to ensure the credibility of Fed promises to keep money creation under control, Congress created long terms of office for the Board of Governors (14 years) and staggered the governors' terms (one expires every two years). This effectively guaranteed that one president could not appoint all of the members of the Board and therefore "stack" the Fed. Long terms also made the Board more independent of the political process because members did not have to worry about reappointment. Finally, long terms made the Board members more accountable: Policymakers who made promises today would likely still be in office in the future and could be brought to task for failing to live up to earlier promises. As a result, long terms gave current Board members an incentive to carry out promises.

Lastly, to prevent the Fed from making decisions that benefited a particular industry or region, Congress required the Fed to report on its actions. But to ensure that the Fed maintained its independence, Congress restrained itself from making frequent intrusions. The Fed was therefore required to report regularly to Congress; in return, Congress would not try to influence Fed decisions on a day-to-day or month-to-month basis. This reporting structure again gave the Fed independence, yet made it accountable and transparent to the electorate.


2. It is interesting to note that, in effect, the members of Congress in 1913 ensured that in the future, Congress could not threaten the Fed with budget cuts. Thus, an earlier generation of politicians implemented checks and balances on future generations of Congressional representatives.

Back to Top