When a trading scandal first erupted at the Federal Reserve in September, prompting the resignation of two regional bank presidents, chair Jay Powell pledged to tackle the controversy head-on.
“It’s something we take very, very seriously,” he said at a press conference that month. “This is an important moment for the Fed, and I’m determined that we will rise to the moment and handle it in ways that will stand up over time.”
But four months later, the scandal has flared up again, with the central bank’s second-in-command stepping down this week following new revelations about his trading activity. Richard Clarida’s departure has resurfaced thorny questions about the central bank’s response to one of the worst reputational crises in its history.
The Fed quickly responded in October with tougher rules to curtail trading activity by officials. But lawmakers, former staffers and ethics experts warned that the controversy would not go away without further action.
“For an institution that prides itself on communication and prides itself on transparency, this is a major failure,” said Simon Johnson, a professor at the Massachusetts Institute of Technology who was a member of Joe Biden’s transition team focusing on the Fed and other regulatory agencies.
“This makes it harder for people to stick up for the Fed and insist on the Fed retaining its independence.”
The scandal, which has prompted an independent investigation by the central bank’s government watchdog, was reignited last week following the emergence of amended disclosures by Clarida, the Fed’s outgoing vice-chair, which were submitted in mid-December.
Clarida had already come under scrutiny in early October when he was found to have moved between $1m and $5m from a bond fund into a stock fund in February. The trades were made days before the central bank announced a huge dose of stimulus to support markets and the economy at the onset of the coronavirus pandemic.
But a previously undisclosed trade, omitted by Clarida due to what he said were “inadvertent errors”, showed he moved more than $1m out of the same stock fund just three days earlier.
In his resignation letter to President Joe Biden and a statement announcing his departure from the Fed, neither Clarida nor the central bank made any mention of the trade in question.
Clarida, now the third senior official to quit in the wake of the scandal, had been due to stand down when his term expired on January 31.
The Fed has declined to comment on the nature of Clarida’s newly disclosed transaction or how it related to the earlier explanation that the first questionable trade was part of a “pre-planned rebalancing” of his portfolio.
At one point, the furore threatened to engulf Powell after it emerged that the Fed chair had withdrawn between $1m and $5m from a Vanguard stock index fund in October 2020. At the time, the Fed said the sale, which was approved by government ethics officers, was made to cover family expenses.
Ethics experts said the inspector general’s investigation may limit what Clarida and the Fed can say, but the lack of transparency has nonetheless raised concerns.
“The resignation was strikingly devoid of content. That is a very loud silence,” said Norman Eisen, an ethics adviser to the Obama administration now at the Brookings Institution. “With every new development, the questions about what was going on only become more profound.”
“I do think the Fed has taken the right initial steps, but we need some answers now,” Eisen added.
In a December letter acknowledging the updated disclosures to the US Office of Government Ethics, the Fed’s ethics officer wrote: “Based on my review of this amendment, I continue to believe that Mr Clarida is in compliance with applicable laws and regulations governing conflicts of interest.”
Elizabeth Warren, the Democratic senator from Massachusetts who has called for an investigation by the Securities and Exchange Commission, pressed the central bank again this week to turn over “all available information” on personal financial transactions made by officials before January 17.
Dennis Lockhart, former president of the Atlanta Fed, said the new trading rules were an “admirable response to what is largely an optics problem”. But some Fed watchers have taken issue with the fact that a final draft has not yet been released.
The Fed has said it would ban its policymakers and senior staff from buying individual shares and other investments. It will also require 45 days’ notice before transactions are made in addition to the limits already in place that restrict when trades can be executed.
When questioned about the details during his Senate confirmation hearing this week, Powell said the guidelines were among the “toughest in government” and would mean “there will be no ability to time the market”.
He added that the regulations would be put in place “imminently”, but it was a “complex” process that required the Fed to “build systems” to implement them.
Walter Shaub, former director of the US Office of Government Ethics between 2013 and 2017 said: “The devils are in the details . . . The Fed’s response to this scandal has been troubling in that they haven’t shown a strong commitment to transparency here.”
He added: “What they should be doing is building trust with heightened transparency.”
Johnson and other ethics experts argued that the restrictions were not robust enough.
“The only way out of this is for the Fed to prohibit trading of any kind at any time by all governors and other responsible officers,” he said. “They have material nonpublic information all the time.”
Rigid rules are all the more important given the centrality of the Fed in financial markets, former staffers said.
“The Fed has to have the most stringent rules because its leaders have access to the most important information that you can make the most money on in the quickest period of time,” said Gary Richardson, an economic historian at the University of California, Irvine who previously worked at the Fed.
How the central bank proceeds, both in its implementation of the rules and its handling of the investigation, will determine whether the scandal inflicts long-term reputational damage, said Kathleen Clark, a legal ethics professor at Washington University in St Louis.
“The public [must] have confidence that the folks leading the Fed aren’t taking advantage of their positions to enrich themselves,” she added.
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