After the Great Financial Crisis, central bankers were alerted to the inherent financial stability risks of the shadow banking system, its endogenous tendency for overexpansion in boom phases, and its tendency for strong contraction during bust times. These experiences led to an attempt to control the shadow banking system in a regulatory manner – an attempt which in its essence failed to materialize in the post-crisis decade. Incapable of convincing market regulators and facing stiff opposition from shadow banks, among them asset managers demanding evidence of such tendencies, central bankers in their attempts never reached the momentum needed to seriously limit the system. In this context, central bank policymakers, in particular at the Federal Reserve, started to question if and to what extent monetary policy should take the shadow banking system into account and lean against the wind when its expansionary tendencies threaten future turmoil. Based on extensive transcripts of the Open Market Committee of the Fed, expert interviews, and an analysis of the evolving technocratic literature, this lecture documents “technocratic myopia.” Incapable of calculating the trade-offs between the mandated variables of inflation and unemployment on the one hand and expected future financial instability on the other, central bank agents chose to abstain from raising rates in the face of rising financial imbalances. Although they were keenly aware of the dangers inherent in letting low rates last too long, the fear of politicization over unpopular policy measures, as well as the fact that such policies contravened long-established monetary policy orthodoxy, led to their inaction.
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