06/05/2012 05:30 pm ET Updated Aug 05, 2012

Senator Bernie Sanders Seeks to Reduce Bankers' Prominent Government Role Regulating Themselves

The most powerful government regulator of banks, the Federal Reserve -- the Fed -- provides a prominent role in its bureaucracy for the banks it regulates. Each of the Fed's 12 district Federal Reserve Banks from Boston and New York City to Kansas City and San Francisco has a board of nine directors, six of whom are elected by a banker in each of the "member" banks in the district. All nationally chartered banks and some state chartered banks are member banks.

These boards of directors are privy to valuable inside information about future Fed policy and have substantial power including the election of the presidents of the district Fed Banks, subject to the approval of the Fed's Board of Governors in Washington, D.C.

When Secretary Timothy Geithner recently said there is a perception of a problem that should be fixed but that the directors have little power, he may have forgotten who elected him president of the New York Federal Reserve Bank. It was the New York Fed board of directors, six of whom were elected by the banks in the New York Fed Bank's district that Geithner would regulate.

Later, the 2010 Dodd-Frank bill limited the directors in presidential votes to the three directors chosen by the Board of Governors and the three non-bank members who are elected by the banks.

The Kansas City Fed Bank President Esther George's answer (May 24, 2012) for this conflict of interest is that the board of directors must meet the central bank's "high standards" for impartiality. How would that answer apply to the conflict of interest between her and the bankers she regulates who elected the board members who elected her KC Fed Bank president and may elect her for another five-year term?

The history of the KC Fed includes an investigation by Congressman Henry B. Gonzalez of non-Fed employees attending board of directors' meetings where valuable inside information about future Fed interest rate actions were discussed. Former Fed Chairman Alan Greenspan replied to Gonzalez: At the Federal Reserve Bank of Kansas City, over the 3-year period, a total of 28 foreign central bankers have attended 16 different board of directors' meetings, including the discussion and vote on discount rates. Those attending included central bankers from Bulgaria, China, the Czech Republic, Hungary, Poland, Romania and Russia.(letter, April 25, 1997, p. 2)

Senator Bernie Sanders (VT), joined by Senators Barbara Boxer (CA) and Mark Begich (AK) proposed a new law, The Federal Reserve Independence Act (S.3219), that would reduce bankers' prominent government role regulating themselves.

The law prohibits banking industry executives or other employees from serving on any of the Federal Reserve's boards of directors or selecting any of the Fed's board of directors. It also prohibits Federal Reserve employees or board members from owning stock or investing in companies that the Fed oversees, regulates, and supervises without any exceptions or waivers.
I assisted former House of Representatives Banking Committee Chairman Henry Reuss' investigation which led to the passage of the Federal Reserve Reform Act of 1977. That law brought Fed Bank directors under the federal government conflict of interest laws. Apparently, it has had little effect.

Reuss fought for many months to obtain the minutes of the boards of directors' meetings of the twelve district Fed Banks. Some Fed officials were quite annoyed. St. Louis Fed President Lawrence K. Roos is reported on the Fed's transcript saying:

"I'm sure we did this with great wisdom knowing that a man named Reuss would ask for them. The minutes are really terribly shallow. Tell nothing." (November 16, 1976 FOMC transcript, p. 17.)

During a House of Representatives floor speech (May 24,1977) Reuss called attention to vacuumed minutes that reported a murder at the Richmond Fed:

"After a murder and three related shootings inside the Richmond Federal Reserve Bank, there must have been quite a discussion at the next board of directors= meeting. However, the minutes of March 9, 1972, at Richmond report simply: >Mr. [name on original record] reported on the incident last Tuesday, when one of the Bank's guards shot and wounded four other members of our Security force, one fatally. He said that the other three had been released by the hospital." (The board of directors' minutes for March 9, 1972, p. 19, Federal Reserve Bank of Richmond.)

Despite this vigorous vacuuming there was enough material in the hundreds of pages of minutes for three years to reveal very disturbing facts at a board of directors' meeting that led to the discovery of the Fed's part in the Watergate Coverup.

Robert Auerbach is a member of Senator Sanders Advisory Committee on Federal Reserve Reform.