Janet Yellen is worried about the next financial crisis and told a small, intimate audience at an event Wednesday night in Washington, D.C., that her biggest concerns were the potential for reversal of financial safeguards put in place after the crisis and growing corporate debt.
“I am worried that we are in a deregulatory mode and I see a lot of pressures building in the system to go further to really weaken fundamental safeguards that were created in Dodd-Frank. We are a decade after the financial crisis so that would be worrisome and wrong to do,” Yellen told the audience at the Women in Housing and Finance holiday event.
See also: Ten years after Lehman, IMF’s Lagarde warns fallout from financial crisis far from over
Her new role, as a Distinguished Fellow in Residence at the Brookings Institution, a nonprofit public policy organization, “is a little less stressful,” she said.
Her Fed chair predecessor, Ben Bernanke, is in the office next to her and next to him is another Fed veteran, Don Kohn.
“We call ourselves the FOMC – former open market committee,” said Yellen.
One of the most important questions she and her colleagues face, she said, is what monetary policy tools exist to address the next recession. Although interest rates will rise from the zero levels we had for seven years, they are likely to stay relatively low. That means, said Yellen, that monetary policy’s traditional short-term interest rate lever is not available to address a new downturn in the economy.
In response to a question about high levels of corporate debt she said that the issue is similar to what triggered the financial crisis.
“You had investors that were reaching for yield and wanted to hold securities that they thought were safe, but that had reasonably high yields. There are a lot of investors in this low interest rate environment who are reaching for yield.”
Yellen is not as worried these loans present a risk to the banking system. However, “if the economy experiences any kind of negative shock where rates go up more than expected there will be a lot of corporate bankruptcies, a lot of distressed credit crunch a lot of downgrading of loans, a lot of investor losses,” said Yellen.
She believes this is a risky form of lending and is “disturbed” that she does not see regulators having the tools to address it.
Yellen said she is also “very concerned’ about the state of financial regulation.
The Senate confirmed Yellen as Fed Chair on the same day it passed the Dodd-Frank law.
“We spent the next eight years trying to put in place regulations to strengthen the financial system and my view is a lot was accomplished but there is still a lot to do. So I am concerned with monitoring where things stand. And I am eager not to see an unwinding of the regulations. There may be ways they should be adjusted but I think it is important that those regulations serve to reduce the risk of another financial crisis.”
In response to a question from MarketWatch about her concerns regarding post-crisis regulation that has been blocked or is in danger of being reversed she said there were important reforms that she would not want to see watered down.
“I think revising some of the things like the Volcker Rule that were extremely complex and maybe weren’t working properly was an entirely reasonable thing to do.”
But there were areas of regulation, for example, the creation of the orderly liquidation authority to resolve a future Lehman Brothers that “could work” but would require a huge amount of international coordination. She worries that the commitment to continue that work has disappeared.”
See also: Reforms haven’t eliminated risk of another Lehman-type failure
Read: A decade after the crisis, the SEC still hasn’t passed executive compensation rules
There are other areas as well where there was more to be done and I am concerned,” she said.
When asked about defining moments in her career, Yellen said it was the financial crisis that drove her understanding of what the Federal Reserve was about and what was required to be a leader in Fed system.
“Lots of people within the Fed in some sense had trained like firemen to deal with a fire. The truth is we had not had any significant fires for a long time. We did not have a lot of bank failures. We fortunately had not had a financial crisis. And we really never had in the post-war period seen unemployment rise to a level like 10%. In the Great Depression short-term rates moved down as low as zero. But the only other country that had found itself in modern times against the so-called zero lower bound was Japan.”
Yellen said the crisis presented “really unprecedented challenges” for the Fed.
It hasn’t been since the 1980s that the U.S. has had double-digit unemployment and inflation. The number of bank failures during the crisis — 465 between 2007 and 2012 — is dwarfed by the number of failures in just one year — as a result of the savings and loan crisis that began during the volatile interest rate environment of the 1970s.
Yellen said she was at the San Francisco Fed that when the crisis started. “We had always prized, and as a leader in trying to explain to the people at the Fed what we were about, it was always public service, professionalism, we operate with high integrity and ethical values. We are not political. We make judgments based on factual analysts and weighing costs and benefits and politics never enters into anything.”
She said they also stressed work-life balance. And then the financial crisis came.
It was a challenge since, “when you are a firefighter and there is a 10-alarm blaze you don’t say, ‘Well, that’s nice but my shift is over and I am going home now.’”
Additional reporting by Jeffry Bartash.