The state of the state of banking in America? It’s on safer ground, according to Janet Yellen, the chairwoman of the Federal Reserve (the Fed).
Yellen gave what many experts expect will be the last speech of her tenure on Friday in Jackson Hole, Wyoming, where some of the world’s most powerful central bankers have been meeting to consider the state of the global economy.
Yellen, who’s been in charge of the Fed since 2014, emphasized the central bank’s accomplishments in making the U.S. banking system more solid. Yellen’s term ends in January.
What is the Federal Reserve and how does it affect banks and the economy?
The Fed is the nation’s central bank. It sets interest rates and influences the supply of money in the economy, in part by buying and selling U.S. Treasuries.
The Fed, which is responsible for making sure the banking system is secure, had an active role in rescuing the U.S. economy during the financial crisis of 2008. It did this–through a process that came to be known as quantitative easing– -by lowering interest rates, purchasing bonds, and pumping money into the banking system.
As the financial crisis spread around the world, other nations responded by using models similar to the one the Fed put in place.
Why banks are safer now
Here are some key points from Yellen’s speech:
- Yellen said the U.S. banking system has more cash on hand than it did before the recession. That’s because new federal regulations put in place during the recession require banks to keep more cash in reserve to meet future crises.
- Banks now have a system of so-called stress tests in place. A stress test is an annual review conducted by the Fed that banks submit to, determining whether they can meet new financial crises as they arise. All the major banks passed these tests in 2017.
- While banks are required to keep more cash on hand–cash which some critics say might otherwise have been lent out to consumers or small businesses–there’s evidence, Yellen says, that the extras funds have provided stability to the financial system, which in turn is good for the economy.
“The events of the crisis demanded action, needed reforms were implemented, and these reforms have made the system safer,” Yellen said in prepared remarks.
Why is Yellen’s speech important?
You may not remember it, but the financial system of the U.S. was on the verge of collapse as the nation’s banks ran out of money in 2008.
The reasons behind this are complicated, but the short version is that many of the nation’s top banks had gotten involved buying and selling risky mortgage loans. That ballooned into what Yellen called a “tidal wave” of bad debt that plunged the economy into the worst crisis it had seen since the Great Depression, starting around 2008. This most recent crisis was known as The Great Recession.
- Yellen’s speech was something of lookback on her tenure leading the nation’s central bank.
- In her view, the U.S. financial system is safer now, because banks are holding more cash on hand, and they perform annual tests that ensure they can operate in the face of new financial crisis.
Keep reading: What do interest rates have to do with the economy?
Jeremy Quittner is the financial writer for Stash.