The Construction of Systemic Risk As a Pathology of Monetary Government

How did the Federal Reserve came to govern the sector most closely associated with capitalism—finance—against the most fundamental principle of political liberalism, private risk-private reward?  To unravel this paradox, this paper traces the emergence of systemic risk as a pathology of monetary government of the economy, and thereby it argues that this governmental problem has been one of the primary byproducts of, as well as the engines behind, the neoliberal co-production of the state and the economy since the 1970s.  The invention of systemic risk is intimately tied with what the paper calls monetary nominalist project to govern the economy from the Fed at a distance, without intervening in its structure.  This project was conceived in the 1950s as former New Dealer policy elites and fiscal and monetary nominalists arrived at the consensus that for the economy to reach its maximum growth potential, the locus of discretionary economic government had to be shifted to the Fed. Because such a task required transforming the financial system into a vital and yet highly leveraged and thus vulnerable credit infrastructure—a hybrid object that is part of both the state and the economy, these experts sought to free up financial flows by replacing the Glass-Steagall  financial risk suppression regime with an aggregationist financial risk management regime.  Framing the catastrophe risk in the economy as a “general liquidity crisis,” this new regime sought to regulate this risk through a dual strategy of distributed risk management and financial emergency mitigation.  In the course of its implementation in the 1970s, however, the monetary nominalist project brought into being its own pathologies in the form of what policymakers in the Fed termed as “limited liquidity crises” in short-term lending markets. It was at this juncture that the Fed constructed systemic risk as a governmental problem entailing a temporary situation of emergency posing the irreducible uncertainty of a systemic collapse.  As the efforts to manage such risks produced “moral hazards” as a disruptive feedback loop between the distributed risk management and emergency mitigation strategies, the Fed spent the next four decades reforming the aggregationist regime.  Thus, the paper concludes that the institution of a new systemic risk regulation regime under the Dodd-Frank Act of 2010 symbolizes that this reiterative problem-making and -solving process has reached its limits.  This new regime points not only to the emergence of an alternative problematization of systemic risk as an irreducible structural vulnerability, inherent to the financial system.  It also deploys a highly intrusive governmental strategy called vulnerability reduction that allows the Fed to reach all the way into the financial firms like Citibank and intervene in their daily operations.  Rather than replacing its aggregationist counterpart, however this new regime seeks to reduce the vulnerability of the system to a certain point so that the Fed can continue to govern the economy, as well as systemic risk, at a distance.