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David M. Jones (2014). Understanding Central Banking: The New Era of Activism
(Armonk, New York and London, England: M.E. Sharpe), pp. 201, p/b, ISBN 978-0-
7656-4251-6
ABSTRACT: What is central banking? Why does it matter? Why, more specifically, has it
come into the consciousness of the layperson like never before? These then are the important
questions that are raised in this comprehensive introduction to central banking by one of the best
known Fed-watchers in the world. David Jones has written a number of books in this area. The
difference however between this book and his previous work is related to the financial crisis of
2008 and the enormous efforts that were taken by central banks around the world to pull the US
and European economies out of the morass in which they found themselves in after a number of
systemically important banks collapsed or came close to collapse in 2008. Jones chronicles the
efforts made by Ben Shalom Bernanke and his colleagues at the US Federal Reserve and central
banks in Europe and Japan to respond dynamically to the financial crisis by using the tools of
both conventional and unconventional monetary policy.
KEYWORDS: Activism, Central Banks, Dodd-Frank Act, Dual Mandate, Forward Guidance,
Hawks and Doves
I. Introduction
While economic historians will no doubt continue to debate the merits and the demerits
of the monetary policy interventions led by central banks during the crisis, there can be
no doubt that their efforts were sufficient to warrant the use of the term ‘activism’ in the
title of this book. The main reason was that the financial crisis prompted the US Federal
Reserve to go beyond the conventional ambit of monetary policy and try out
unconventional monetary policy tools for the first time. The activist Fed then is a good
instance of how an institution comes into prominence because of its ability to respond
to a crisis that leaves others bewildered. It finds itself willy-nilly setting the relevant
precedents on what an effective policy response must be in difficult times. The main
goal of this book is to explain exactly what measures were taken by the US Federal
Reserve, the European Central Bank, and the Bank of Japan to stem the financial crisis

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and reverse to the extent possible the damage caused by the near meltdown of the
economy in 2008. This book should therefore be read by not only those who are already
central bankers, but also by those who aspire to be central bankers, or by those who are
trying to understand the modalities of central banking from the loci of academia or the
business media. Jones is not only able to delineate the history and practice of central
banking effectively, he also presents a lot of invaluable data on the range of policy
measures and mechanisms that were invoked by the Federal Reserve to tackle the
financial crisis by using a series of appendices without letting it affect the readability of
the main narrative. This book is a lucid introduction for both the expert and the
layperson; it can also serve the function of a reference text in college and media
libraries. There are ten chapters, nine appendices, a bibliography, an index, and notes
about the author. These chapters can be read in sequence as a history of central banking
or as separate thematic modules in central banking.
II. Monetary Policy
Jones begins his narrative by setting out the structure and function of central banking
by explaining at the very outset the scale-and-scope of monetary policy. What exactly is
monetary policy supposed to achieve? What are the differences between monetary
policy and fiscal policy? Are these policy approaches supposed to be co-ordinated?
How more specifically does the US Federal Reserve relate to the US Treasury? How did
the US Fed-Treasury Accord of 1951 change central banking in the United States? These
then are some of the main questions with which Jones begins this book before
comparing the differences between the scope of central banking in the United States,
Europe, and Japan. Not many know for instance that the definition of central banking
varies between different monetary policy jurisdictions. So, for instance, the US Fed is
not mainly preoccupied with inflation, inflation targets, and managing inflation
expectations in the way that characterizes the monetary policy approach of the Bank of
England since the Fed’s original mandate of 1913 was amended by the Employment Act
of 1946 and the Humphrey-Hawkins Act of 1978.
These amendments made it necessary for the Federal Reserve to consider its monetary
policy goals in the context of the ‘dual mandate’ of maximizing employment while
doing what it can to ensuring price stability. It is in failing to understand the nature of
this dual mandate that leads to endemic misunderstandings about what the Fed is up to
at any point in time by not only members of the lay-public but also by members of the
Fed. While central banking is a technical discourse, it doesn’t mean that all central
banks have the same objective. The extent of give-and-take in policy matters between a
central bank and the Treasury will vary from one jurisdiction to another. It is therefore

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important to do a comparative analysis of central banks and not assume that they are all
doing the same thing. Likewise, the extent of central bank responsiveness to crises is not
the same in different parts of the world. The extent to which a central bank is able to
respond effectively to a crisis depends on the range of monetary policy tools that are
available in its arsenal. This will vary depending on how ‘activist’ it is allowed to be by
the parliamentary or Congressional statues that govern the functioning of central banks
in different parts of the world.
III. Lender of Last Resort
What Jones is at pains to explain is how the ‘lender of last resort’ function originated in
the US economy starting with the Panic of 1907. He emphasizes the fact that the very
presence of a central bank can be a source of stability to calm the financial markets
during an economic down-turn. This is for instance reflected in the structure of
macroeconomic theory; there was not much discussion of central banking in
macroeconomic theory until the advent of the US Federal Reserve. But now the better
part of macroeconomics is preoccupied with monetary theory and the differences
between monetary theory and monetary policy are often related by economists to
differences in the basic assumptions about the efficacy of central banking as a whole;
hence the importance of central bank ‘activism’ in a financial crisis. A formulation that
had gained much currency amongst central bankers of late is the willingness to do
‘whatever it takes’ to help the economy recover from crises. This level of activism
would have been unthinkable before the crisis of 2008 and has led to discussions
amongst economists on whether these monetary policy precedents will be de rigeur in
the next financial crisis or whether the relevant provisions in the Dodd-Frank Act of
2010 that curtails the Fed’s powers to intervene during a crisis will prevail. The Fed
itself has taken a lot of effort to both anticipate how crises will emerge in the future and
how it might want to respond in the light of the Dodd-Frank legislation. This is one of
the many aspects of crisis management that the Fed has addressed in its attempt to
articulate the structure, function, and scope of monetary policy under the leadership of
Ben Bernanke.
IV. Articulating Fed Policy
The articulation of Fed policy by the Federal Open Market Committee has also been
accompanied by any number of speeches and testimonies in which the Chairman and
members of the committee have participated in recent years. Another indicator of an
activist Fed is the gradual but substantial increase in Federal Reserve communications
after Ben Bernanke became chairman. The main rationale for this is the fact that the

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success of the Fed’s policy interventions depend on ensuring that the role it plays in not
only conventional monetary policy, but in providing ‘forward-guidance’ to the
‘broader-economy’ are well-understood by those who will be affected by its policy
actions. Jones not only relates Fed policy to a range of interest rates but to a number of
macroeconomic indicators that are affected by and which in turn affect Fed policy in the
context of ‘globalization, deregulation, and mounting global capital flows.’ Activism is
by no means restricted to the US Fed but has been the case in the Bank of Japan and the
European Central Bank as well. Jones helps the reader to understand the role played by
these banks during the recent crisis and on how the crisis in turn will affect the
monetary policy choices that these banks will make in the years to come.
V. The Real Economy and the Financial Economy
It is important to remember that central bank activism – once recognized for what it is –
is a not a new phenomenon but has been seen in the past as well. It is important to
understand the structure of financial crises, why they arise in the first place, and the
role played by central banks in helping to simultaneously create, manage, and solve
these crises. Most recent commentators on economic and financial crises have used this
crisis to revive the interest of the layperson in economic and financial history. The
revival of research in these areas both in business schools and in central banks is
making it possible to not only note when and where central banks have been activist in
the past, but to also work out a genealogy of central bank activism in books like this.
The level of activism or restraint in central banks in the years to come will depend on
getting this history right and in being able to justify the extent of the intervention in any
given instance. Financial crises however are not reducible to problems in the banking
sector but encompass asset bubbles in a number of ancillary markets as well.
The recent crisis for instance was accompanied by severe over-capacity in the US
housing market. The fantasy that seemed to distort economic reality in these markets
was that there is something enduring in the housing market and that both the extent of
the demand and the scale of financing available in these markets are immune to the
usual ups-and-downs in the economy. While these physical assets might have been real,
they were financed by exotic financial instruments that made it increasingly difficult to
differentiate between the real economy and the financial economy. Jones invokes a
number of case studies on the banks that had overexposed themselves to the mortgage
markets and thereby teetered close to bankruptcy in 2008. He also discusses the lessons
learned by those in the shadow banking sector on the dangers involved in markets that
they once felt were unassailable. It is precisely the crisis in the housing market and the
failure of regulation in these markets by government-sponsored entities that required

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an activist response by the Fed since it threatened to spill over into the broader-
economy.
VI. The Great Depression
One of Jones’s favorite themes in this context is what Bernanke had learnt from his
study of the role played by the Fed in causing the Great Depression in the 1930’s.
Bernanke was determined to prevent a repeat of that trauma for the nation as whole.
What in a sense is exciting about the publication of books like this is precisely the idea
that economic and financial history have moved into the academic mainstream in a way
that was only possible for political history in the past. It is not possible to say anymore
that the policy actions of central bankers matter only to the members of the financial
community. The crisis has also brought to public awareness the notion of the
‘systemically important’ financial institution whose success or failure can have
important consequences for just about everybody. Jones not only lists the systemically
important institutions but helps us to understand how we must think about them. The
central banker in his understanding is no more an anonymous bureaucrat, but a
persona of great socio-cultural importance. The ways of the central bankers and
investment bankers is not a matter of mere academic curiosity, but increasingly as
important as the leading representatives of the executive, the legislature, and the
judiciary. Jones therefore explains who the great central bankers are, what their
contributions were, and why they will continue to play a prominent role in the
contemporary economy. Nobody, needless to say, embodied in recent times the policy
persona of the central banker more powerfully than Ben Bernanke.
VII. Conclusion
It would not be an exaggeration to say then that Bernanke made central bankers out of
more academics and media representatives that any other central banker in recent times
by simply articulating monetary policy in a way that made it the stuff of dinner-time
conversations throughout the United States and around the world. Jones helps the
reader to understand and situate Bernanke’s achievements in the context of his
influential predecessors as Chairmen at the Fed and the on-going policy tussle between
‘hawks and doves’ in the US Federal Reserve System to determine whether monetary
policy action will lean in the direction of inflation targeting or maximizing employment.
For those interested in monetary theory and monetary policy, this is as good as any
other place to get started in learning to appreciate the increasingly influential role of
central bankers and central banking in contemporary society. This book not only
provides a thorough introduction to monetary policy, but will also help the reader to

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situate monetary policy within the context of the monetary history of the United States.
It should be compulsory reading for introductory courses in monetary policy, monetary
history, and institutional economics.
SHIVA KUMAR SRINIVASAN