Book reviews and notes

The Fed The Inside Story of How the World's Most Powerful Financial Institution Drives the Markets

Martin Mayer

Free Press, New York, xiii + 350 pp., $27.50/Can$41.95 (cloth).

In Martin Mayer's view, the U.S. Federal Reserve is not unlike the Wizard of Oz: behind the imposing facade and stunning special effects lurks an institution that is very puny indeed. The transformation of the financial landscape in recent decades has reduced the central bank's power, and so the Fed's ability to shape what goes on in financial markets now largely comes down to psychology. It is the markets' anticipation of, and response to, actions by the Fed that constitute the real basis of its influence. Although by no means an uncritical admirer of Alan Greenspan, Mayer recognizes that one of the Fed Chairman's strengths is to have grasped this fundamental insight into the nature of the Fed's power on the contemporary scene.

Mayer's book is essentially two separate stories rolled into one. The first, and strongest part of the book, is an account of the Fed's history over the past fifty years, told from the perspectives of its successive chairmen. Mayer, a veteran financial journalist with nearly thirty books to his credit, has excellent sources and is personally acquainted with many of the key players. Although his tone is at times irascible, Mayer tells his tale well. Two episodes deserve to be singled out: the first is the 1951 "accord" between the U.S. Treasury and the Fed concerning their respective roles in debt management and monetary policy. As Mayer remarks, this little-noticed agreement laid the foundation for the Fed's operational autonomy in monetary policy and, hence, is the starting point for much of the recent debate about central bank independence.

The second episode was the Fed's being given overarching responsibility for regulating financial conglomerates under the 1999 Gramm-Leach-Bliley legislation. This development bucks an international trend toward diminishing, rather than increasing, the regulatory role of central banks and thus requires explanation. In Mayer's view, it owed much to Chairman Greenspan's personal prestige and was powered by the Fed's need to carve out a new role for itself.

The second strand of Mayer's story, which provides the...