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Fed Ties to Banks Incite Calls for Change

It recently came out that the directors of 12 regional Federal Reserve Banks have ties with privately held financial institutions and banks. They are either board members or have significant shares in these institutions. This revelation has incited calls to overhaul the policies of the banking establishments as a whole. On Monday, the Wall Street Journal outlined how Stephen Friedman, a Goldman Sachs Group director and the chairman of the New York Federal Reserve, was allowed to hold both positions even after Goldman Sachs became a Fed-regulated bank last September.

Following the revelation, the New York Federal Reserve has faced a lot of criticisms on its corporate-governance practices. Other regional Federal Reserve Banks including those from Dallas and Kansas City had said they wouldn’t have permitted this type of situation to occur.

According to Cam Fine, the chief executive of the Independent Community Bankers in America, no regional Federal Reserve director should be allowed to have connections with a regulated financial establishment. He added that this “should be a very bright line”. The New York Fed is particularly important because a number of the nation’s largest financial institutions are found in New York.

When the Federal Reserve was formed in 1913 by Congress, it required the 12 regional banks to have nine board members. Three will be appointed by the Fed Board in Washington while six will be elected by the local banks. The regional banks are tasked to give recommendations about the Fed’s discount rate and other matters to the Washington office.

Under its rules, three Class C directors, such as Stephen Friedman cannot hold positions at banks that are regulated by the Federal Reserve. But lawyers sought a way around by asking for a waiver of the Fed policy. This allowed Mr. Friedman to continue his role as Fed chairman even as he held on to a large Goldman Sachs stock at the same time.

The Minneapolis Federal Reserve chairman also asked for a similar waiver. John Marvin, the chairman there, holds shares on both Morgan Stanley and Goldman Sachs. There is good news though. Other regional Fed banks have announced they wouldn’t permit such maneuvers. The Dallas Federal Reserve Bank has asked chief executive Myron Ullman to resign from his Pzena Investment Management position before he was allowed into the Fed board.

Washington Fed officials are responding to the call for more transparency. On Tuesday, Ben Bernanke has announced that more details will be revealed about its borrowers. Currently, it is also reviewing the rules for its regional bank directors in the hope that conflicts can be avoided in the future.

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