This was the title of George Selgin (CFMA, Cato) talk at the Institute of International Monetary Research (IIMR) and the Institute of Economic Affairs (IEA) seminar, ‘Quantitative Easing. Triumph or Folly?’ (3rd Nov. 2016). The title of course evokes Ben Bernanke‘s words at the conference held in 2002 to honour Milton Friedman for his 90th birthday; in his speech Bernanke ended with some words that have resonated everywhere in the midst and the aftermath of the Global Financial Crisis in 2007-09: ‘Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again.‘ True, banks’ deposits have not contracted (as it did happened in the early 1930’s) around 30% in the recent crisis, but broad monetary growth (M2) plummeted in 2009 and did have a subsequent impact in the extension, amplitude and the severity of the crisis.
The 1930’s crisis is the historical precedent used by George Selgin to judge the Fed’s response to the two major financial crises occurred since the establishment of the US Fed in 1913; the Great Depression and the Global Financial Crisis. Selgin resorts to well-established monetary theory to recommend an early intervention in monetary markets in case of a banking crisis occurs in order to prevent the payment system and financial markets from falling. And he does so by using Walter Bagehot‘s well-known criteria for central banks to act effectively as the lenders of last resort in a monetary system where the reserves are held by a single bank: (1) the central bank must act promptly and provide loans to illiquid but solvent banks with no limit (2) against collateral (assets that would have been used in normal times) and (3) at a penalty rate; that is an interest rate higher than the normal or policy rate.
Did the Fed abide by those criteria?
As you can surely tell by the title of his talk, Selgin is very critical with the lack of an effective response of the Fed in 2008, which ended up in a drastic fall in monetary growth in the economy in 2009 (see the rate of growth of US M2 since 2007 here). Normally banks’ deposits at the central bank are a sort of a restriction that constraint the potential expansion of their balance sheets. The Fed’s policy of increasing the remuneration US banks’ deposits (or excess reserves) in the midst of the crisis (at a time where there were not many profitable investments options for banks) turned those deposits at the Fed as an asset. In this new policy scenario US banks comfortably sat on a vast amount of cash at the Fed, and did get a profit for doing so; this indeed discouraged them from channelling the money lent out by the Fed to the economy and resulted in an ineffective threefold expansion in the US monetary base. This recent example helps to explain the lack of a mechanical connection between expansions in the monetary base and those in broader measures of money (such as M2, which hardly grew, if at all, at the time).
Watch out George Selgin’s video with his talk in full here for further details. In a nutshell, according to Selgin it was a combination of bad policy measures which caused the Great Contraction and not an inevitable policy outcome. Enjoy the talk!
Juan Castañeda
the old lady of threadneedle street 
The slowdown in the annual growth rate of M2 from 9-10% in early 2009 to just 1-2% in early 2010 is consistent with the subsequent slow rate of recovery in 2010-11, but not with the claim that the FED caused the Great Recession (Dec 07-June 09). However if we believe that monetary policy works with a significant lag, I am not even convinced the first half of my opening sentence is true.
Hi John, following G. Selgin it was the combination of several factors: 1. The increase in the remuneration of banks’ excess reserves by the Fed did discourage banks from putting the money elsewhere (why would they in such an uncertain and highly risky market?), and 2. the provision of lending/liquidity to the banks by the Fed was not as effective and timely as it should have been. On top of that, and of course the Fed is not the only one to blame for this, the announcement of tighter bank regulation worldwide in the Autumn of 2008 (what it became Basel III new capital and liquidity standards later on) also contributed to the shrinking of banks’ balance sheets and thus deposits and M2 (It is what several economists have called the Basel III rules ‘announcement effect’). In my view, the combination of all these factors explain very much the huge decline in money growth at the time.
Thank you for your comment, let’s be in touch, Juan C.