Reserved: One seat on the Fed?

Community banks scored a big win this week as the Senate overwhelmingly agreed to legislation requiring the Federal Reserve to include one of their own within its ranks.

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Federal Reserve Chairwoman Janet Yellen had pushed back on the bill, questioning the wisdom of reserving spots at the central bank for specific industries.

But senators pressed ahead anyway, agreeing by voice vote to add an amendment on a terrorism insurance bill that would require the Fed to always include at least one community banker on its seven-member board.

The Federal Reserve Act that created the central bank simply stipulates that the president’s picks to serve on the central bank should include a “fair representation of the financial, agricultural, industrial, and commercial interests, and geographical divisions of the country.”

But Sen. David Vitter (R-La.) wants to make it more explicit, and require the Fed to always have a community banker or regulator on board.

Vitter and backers of the amendment argue that the Fed has slowly drifted away from its community banking roots over the decades.

Starting in the 1930s, Fed board members came primarily from community banks, either working at the institutions or supervising them.

But beginning in the 1960s, the makeup of the Fed gradually began to shift, as more economists and academics joined the fold. By the 1980s, the vast majority of Fed board members were coming from that world, and academia enjoys an outsized presence to this day.

Yellen and Stanley Fischer, the Fed’s vice chair, both have long academic resumes. Governor Lael Brainerd, before working in the Obama and Clinton administrations, also spent time as an economics professor. Jerome Powell and Daniel Tarullo were both educated as lawyers.

In 2013, Elizabeth Duke, who came up as a community banker, resigned from the Fed. Then President Obama took Sarah Bloom Raskin, who spent time as a state bank regulator, away from the Fed for a job at the Treasury Department.

Those two moves left the Fed board without a community bank voice. While the president is reportedly mulling another community banker to fill one of two open spots at the Fed, the industry is pushing to codify that requirement in law.

“It would be perfectly reasonable, if you want someone with community bank experience on the Fed board, to have that as part of the requirements,” said Paul Merski, vice president of congressional relations for the Independent Community Bankers of America.

Yellen remains skeptical.

She testified that she was “very positive” on the idea of a community banker joining her ranks, but said Congress should not be prescribing it through the law. She argued that if lawmakers reserve a spot on the board for a community banker, it opens the door for other interests to try and carve out their own piece of real estate.

“There are seven governorships. The board has many different needs,” she warned. “If we are earmarking, we could end up earmarking each seat for a particular kind of expertise. And I think greater flexibility needs to change over time.”

The slippery slope argument has also found some buy-in from other corners of the financial industry not explicitly devoted to community banking. One financial industry representative said forcing the Fed to meet some sort of expertise quota could hurt its reputation.

“Before you know it, you’ve completely politicized the [Fed], and that is going to undermine the Fed’s credibility in the market as a group of highly qualified individuals,” the representative said.

While the Senate has passed legislation requiring a community banker at the Fed, the path forward in the House is less clear. In June, a group of 86 House lawmakers, from both parties, sent a letter to the president urging him to pick a community banker.

But there is no explicit legislative vehicle similar to the Senate measure currently, although the House is considering broader Fed reform legislation.

Merski said his group would be pushing to attach the relevant language to any legislative vehicle, saying that once it finds a broader legislative home, the support is there for passage.

“I think it has tremendous support to pass easily,” he said.