The Financial Crisis and Federal Reserve Policy
This new book will provide an extensive analysis of the role of the Federal Reserve in contributing to the crisis through its low interest-rate policy during 2002-2006, and in dealing with the crisis under Bernanke with his aggressive and innovative polic
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The Financial Crisis and Federal Reserve Policy
Lloyd B. Thomas
THE FINANCIAL CRISIS AND FEDERAL RESERVE POLICY
Copyright © Lloyd B. Thomas, 2011.
Softcover reprint of the hardcover 1st edition 2011 978-0-230-10846-2 All rights reserved. First published in 2011 by PALGRAVE MACMILLAN® in the United States—a division of St. Martin’s Press LLC, 175 Fifth Avenue, New York, NY 10010. Where this book is distributed in the UK, Europe and the rest of the world, this is by Palgrave Macmillan, a division of Macmillan Publishers Limited, registered in England, company number 785998, of Houndmills, Basingstoke, Hampshire RG21 6XS. Palgrave Macmillan is the global academic imprint of the above companies and has companies and representatives throughout the world. Palgrave® and Macmillan® are registered trademarks in the United States, the United Kingdom, Europe and other countries.
ISBN 978-1-349-29128-1 ISBN 978-0-230-11807-2 (eBook) DOI 10.1057/9780230118072 Library of Congress Cataloging-in-Publication Data Thomas, Lloyd Brewster, 1941– The Financial Crisis and Federal Reserve Policy / by Lloyd B. Thomas. p. cm. Includes bibliographical references and index. 1. Global Financial Crisis, 2008–2009. 2. Financial crises—United States. 3. Monetary policy—United States. 4. Board of Governors of the Federal Reserve System (U.S.) I. Title. HB37172008.T46 2011 330.9⬘0511—dc22
2010029624
A catalogue record of the book is available from the British Library. Design by Newgen Imaging Systems (P) Ltd., Chennai, India. First edition: March 2011 10 9 8 7 6 5 4 3 2 1
To Sally, Liz, and Sophie
Contents
List of Illustrations
ix
Preface
xi
Acknowledgments
xvii
List of Abbreviated Terms
xix
1 Financial Crises: An Overview
1
2 The Nature of Banking Crises
15
3 The Panic of 1907 and the Savings and Loan Crisis
31
4 Development of the Housing and Credit Bubbles
49
5 Bursting of the Twin Bubbles
69
6 The Great Crisis and Great Recession of 2007–2009
93
7 The Framework of Federal Reserve Monetary Control
113
8 Federal Reserve Policy in the Great Depression
131
9 The Federal Reserve’s Response to the Great Crisis
151
10 The Federal Reserve’s Exit Strategy and the Threat of Inflation
175
11 The Taylor Rule and Evaluation of U.S. Monetary Policy
193
12 Regulatory Reform Proposals
213
Notes
235
Bibliography
251
Index
255
Illustrations
Figures 2-1 3-1
Real U.S. home price index, 1890–2009 Lagged average 30-year mortgage rates vs. 3-month Treasury bill yield 4-1 U.S. household and financial sector debt as percentage of GDP 4-2 Inflation rate of U.S. houses, 1998–2006 Case-Shiller indexes 4-3 Issuance of non-agency mortgage-backed securities 4- 4 Leverage ratios of U.S. investment banks, 2004–2007 4-5 Core inflation rates of consumer and producer prices, 1999–2006 4-6 Ratio of U.S. national home price index to owners’ equivalent rent (1997:1 = 100) 5-1 Percentage decrease in house prices, 2006–2007 peak to 2009 trough 5-2 Yield spread: AA commercial paper vs. treasury bills, June 2007 to December 2008 6-
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