by Michael D. Bordo
e21 – Economic Policies for the 21st Century
March 21, 2014
The Federal Reserve was established a century ago in large part to serve as a lender of last resort (LLR) to allay the financial instability of the National banking era and especially to avoid panics like that of 1907. The Bank of England had learned already to act as LLR by adopting Walter Bagehot’s rules. In simplest terms what is commonly known today as Bagehot’s Rule is to “Lend freely at a penalty rate”. But Bagehot’s Rule had a number of strictures, to which the Federal Reserve has not always adhered. Unlike the Great Depression experience when the Fed clearly failed in its LLR responsibilities, the Fed’s actions in the recent crisis did allay the financial crisis. However, the policies it has followed during the crisis, some of which date back to its founding have created problems for the future.

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