Independence at the CFPB and the Fed

One of my major motivations in starting this blog a few years ago was to have a space to grapple with the topic of central bank independence and accountability. One of the most important things I have learned since then is that independence and accountability are highly multi-dimensional concepts; different institutions can be granted different types of independence, and can fail to be accountable in countless ways. As a corollary, nominal or de jure independence does not guarantee de facto independence. Likewise, an institution may be accountable in name only.

A recent ruling by the U.S. Court of Appeals for the District of Columbia about the independence of the Consumer Financial Protection Bureau (CFPB) highlights the complexity of these issues. The CFPB was created under the Dodd-Frank Act of 2010. On Tuesday, a three-judge panel declared that this agency's particular form of independence is unconstitutional. Most notably, the Director of the CFPB-- currently Richard Cordray-- is removable only by the President, and only for cause.

The petitioner in the case against the CFPB, the mortgage lender PHH Corporation, which was subject to a large fine from the CFPB, argued that the CFPB's structure violates Article II of the Constitution. The Appeals Court's decision provides some historical context:

"To carry out the executive power and be accountable for the exercise of that power, the President must be able to control subordinate officers in executive agencies. In its landmark decision in Myers v. United States, 272 U.S. 52 (1926), authored by Chief Justice and former President Taft, the Supreme Court therefore recognized the President’s Article II authority to supervise, direct, and remove at will subordinate officers in the Executive Branch.

In 1935, however, the Supreme Court carved out an exception to Myers and Article II by permitting Congress to create independent agencies that exercise executive power. See Humphrey’s Executor v. United States, 295 U.S. 602 (1935). An agency is considered “independent” when the agency heads are removable by the President only for cause, not at will, and therefore are not supervised or directed by the President. Examples of independent agencies include well-known bodies such as the Federal Communications Commission, the Securities and Exchange Commission, the Federal Trade Commission, the National Labor Relations Board, and the Federal Energy Regulatory Commission... To help mitigate the risk to individual liberty, the independent agencies, although not checked by the President, have historically been headed by multiple commissioners, directors, or board members who act as checks on one another. Each independent agency has traditionally been established, in the Supreme Court’s words, as a “body of experts appointed by law and informed by experience."

The decision goes on to add that "No head of either an executive agency or an independent agency operates unilaterally without any check on his or her authority. Therefore, no independent agency exercising substantial executive authority has ever been headed by a single person. Until now."

Although the Federal Reserve, unlike the CFPB, has a seven-member Board of Governors, several aspects of their governance are similar: the CFPB Director, like the seven members of the Federal Reserve Board of Governors, is nominated by the President and approved by the Senate. The CFPB Director's term length is 5 years, compared to 14 years for the Governors-- but importantly, both have terms longer than the 4-year Presidential term. The Chair and Vice Chair of the Fed are nominated from the Governors by the President and approved by the Senate for a 4-year term. Both the CFPB Director and the Fed Chair are required to give semi-annual reports to Congress. See these resources for a more detailed comparison of the structure and governance of independent federal agencies.

I find it striking that the phrase individual liberty appears 32 times in the 110-page decision. The very first paragraph states, "This is a case about executive power and individual liberty. The U.S. Government’s executive power to enforce federal law against private citizens – for example, to bring criminal prosecutions and civil enforcement actions – is essential to societal order and progress, but simultaneously a grave threat to individual liberty."

Even though both the CFPB and the Fed have substantial financial regulatory authority, the discourse on Federal Reserve independence does not focus so heavily on liberty (I've barely come across the word at all in my readings on the subject); instead, it focuses on independence as a potential threat to accountability. As I have previously written, "the term accountability has become 'an ever-expanding concept,'" and one that is often not usefully defined. The same might be said for the term liberty. Still, the two terms have different connotations. Accountability requires that the institution carry out its responsibilities satisfactorily, while liberty is more about what the institution doesn't do.

Accountability is a key concept in the literature on delegation of tasks to technocrats or politicians. In "Bureaucrats or Politicians?," Alberto Alesini and Guido Tabellini (2007) build a model in which politicians are held accountable by their desire for re-election, while top-level bureaucrats are held accountable by "career concerns." The social desirability of delegating a task to an unelected bureaucrat depends on how the task affects the distribution of resources or advantages-- and thus, on the strength of interest-group political pressure. As Alan Blinder writes:

"Some public policy decisions have -- or are perceived to have -- mostly general impacts, affecting most citizens in similar ways. Monetary policy, for example...is usually thought of as affecting the whole economy rather than particular groups or industries. Other public policies are more naturally thought of as particularist, conferring benefits and imposing costs on identifiable groups...When the issues are particularist, the visible hand of interest-group politics is likely to be most pernicious -- which would seem to support delegating authority to unelected experts. But these are precisely the issues that require the heaviest doses of value judgments to decide who should win and lose. Such judgments are inherently and appropriately political. It's a genuine dilemma."

The Federal Reserve's Congressional mandate is to promote price stability and maximum employment. Federal Reserve independence is intended to promote these objectives by alleviating political pressure to pursue overly-accomodative monetary policy. Of course, as we have seen in recent years, the interest-group politics of central banking are more nuanced than a simple desire by incumbents for inflation. Interest rate policy and inflation affect different segments of the population in different ways. The CFPB is supposed to enforce federal consumer financial laws and protect consumers in financial markets. The average benefits of the CFPB to individual consumers is probably fairly small, while the costs of regulation and enforcement to a smaller number of financial companies is large. This asymmetry means that political pressure on a financial regulator like the CFPB (or on the Fed, in its regulatory role) is likely to come from the side of the financial institutions. In Blinder's logic, this confers a large value on the delegation of authority to technocrats, while at the same time raising the importance of accountability for political legitimacy.

Tyler Cowen writes, "I say the regulatory state already has too much arbitrary power, and this [District Court ruling] is a (small) move in the right direction." It is not the reduction of the regulatory state's power that will necessarily enhance either accountability or liberty, but the reduction of the arbitrariness of the regulatory power. This can come about through transparency (which the Fed typically cites as key to the maintenance of accountability), making policies and enforcement more predictable and less retroactive and reducing uncertainty. I don't know that the types of governance changes implied by the District Court ruling (if it holds) will substantially affect the CFPB's transparency or make it any less capable of pursuing its goals, as I tend to agree with Senator Elizabeth Warren's interpretation that the ruling will only require “a small technical tweak.”