Establishing credible rules for Fed emergency lending

Abstract

Purpose

The purpose of this paper is to propose reforms that would establish a credible framework of rules to constrain and guide emergency lending by the Federal Reserve and by fiscal authorities during a future financial crisis.

Design/methodology/approach

The authors propose a set of five overarching rules, informed by history, empirical evidence and theory, which would serve as the foundation on which detailed legislation should be constructed.

Findings

The authors find that the current framework governing emergency lending – including reforms to Federal Reserve lending enacted after the recent crisis – is inadequate and not credible, and that their proposed framework would constitute a credible balancing of costs and benefits.

Practical implications

Adequate assistance to financial institutions would be provided in systemic crises but would be limited in its form, and by the process that would govern its provision.

Originality/value

This framework would serve as a basis for establishing effective rules that would be credible, and that would properly balance the moral-hazard costs of emergency lending against the gains from avoiding systemic collapse of the financial system.

Citation

Calomiris, C.W., Holtz-Eakin, D., Hubbard, R.G., Meltzer, A.H. and Scott, H.S. (2017), "Establishing credible rules for Fed emergency lending", Journal of Financial Economic Policy, Vol. 9 No. 3, pp. 260-267. https://doi.org/10.1108/JFEP-01-2017-0006