Federal Reserve Vice Chairman Donald Kohn Speaks on The Financial Markets

The Vice Chairman started the meeting explaining why the economy is doing what it is doing today and how it has done so in the past.

Just like every other period in financial turbulence, this one has been marked by considerable uncertainty. Central banks, authorities, and private-market participants have been forced to make decisions based on incomplete information and understanding. One of the consequences of running the market with this degree of uncertainty is that the rules and criteria for taking actions seem a lot clearer in textbooks or to many commentators than they are to decision makers. Kohn gave an example of this stating that “the extent to which institutions are facing liquidity constraints as opposed to capital constraints, or the moral hazard consequences of policy actions, are inherently ambiguous in real time.”

Kohn also followed up explaining the moral hazard we have been experiencing as done previously by Frederick Mishkin in his speech about the subprime market. Moral hazard is created when individuals borrow money for investments where they stand to make a lot of money if the investment goes well, but if it doesn’t the bank bears most of the risk. Now why people should be bearing the responsibility for their poor judgment, it’s not beneficial to hold the economy hostage to teach a small segment of the population a lesson. Which is why the federal reserve has lowered rates two months in a row.

To read the full speech by Vice Chairman Donald L. Kohn head on over to the Federal Reserve’s website.