Thursday, June 5, 2008

FedPres Lacker is a straight shooter - but lonely

Richmond Fed President Jeffrey Lacker delivers a straightforward warning to a London audience, and by doing so clearly dissents from the chief at the Federal Reserve. While Lacker has already dissented from lowering interest rates in the past this is the first open criticism of a laissez faire approach towards financial institutions practiced at the highest level. Bluntly, the Fed will have to let a big bank or investment house go under to prevent Wall Street from expecting a rescue operation every time it gets into trouble.

"The danger is that the effect of recent credit extension on the incentives of financial market participants might induce greater risk taking, which in turn could give rise to more frequent crises, in which case it might be difficult to further resist expanding the scope of central bank lending."

Now, Lacker thinks "the only credible way to limit expectations of future lending is to incur the risk of short-run disruptions to financial markets by disappointing expectations and by not lending as freely as before."

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