Learn from Past, Plan for Future: Central Bank’s Role in Financial Crises Is Focus of Cleveland Federal Reserve Annual Report

Central banks are responsible for fostering financial stability, and that role takes center stage during periods of financial turmoil, such as the subprime mortgage meltdown. The Federal Reserve Bank of Cleveland’s 2007 Annual Report essay, “Central Banks & Crisis Management,” offers some lessons from the past that may help guide policymakers in planning ahead to manage future financial crises.

History reveals that no nation has been immune to financial crises. According to the essay’s authors, economists Joseph Haubrich, James Thomson, and O. Emre Ergungor, the proper response to a financial crisis depends on the reasons behind the crisis and on the costs and benefits of resolving any related market failure. Central bankers must also consider possible unintended consequences of their actions.

Ultimately, financial crisis management has two goals: minimizing the depth and duration of the current episode and minimizing the probability of future crises. These goals can sometimes conflict when actions taken to manage a crisis in the short run lead to market incentives that are inconsistent with financial stability in the long run.

So how can policymakers stem a crisis without setting the stage for a future crisis? Preparation and planning can reduce the conflict between goals, enhance the credibility of the central bank, and lead to shorter, fewer, and less-severe crises.

Federal Reserve Bank of Cleveland

The Federal Reserve Bank of Cleveland is one of 12 regional Reserve Banks that along with the Board of Governors in Washington DC comprise the Federal Reserve System. Part of the US central bank, the Cleveland Fed participates in the formulation of our nation’s monetary policy, supervises banking organizations, provides payment and other services to financial institutions and to the US Treasury, and performs many activities that support Federal Reserve operations System-wide. In addition, the Bank supports the well-being of communities across the Fourth Federal Reserve District through a wide array of research, outreach, and educational activities.

The Cleveland Fed, with branches in Cincinnati and Pittsburgh, serves an area that comprises Ohio, western Pennsylvania, eastern Kentucky, and the northern panhandle of West Virginia.

Media contact

Doug Campbell, doug.campbell@clev.frb.org, 513.218.1892