The social management of complex uncertainty: Central Bank similarity and crisis liquidity swaps at the Federal Reserve

Abstract

During the global financial crisis, the Federal Reserve issued billions of dollars in liquidity swap agreements with foreign central banks, serving as a global lender of last resorts. Most studies of this event have analyzed the distribution of these swap lines using materially rational frameworks, which is logical under normal lending conditions. However, this approach does not account for the extensive evidence on social influences over decisions made under uncertainty. Meeting minutes from the Federal Reserve exhibit significant flexibility in recipient selection, and the content of these discussions suggest that social dynamics were important in members’ decision-making. This paper tests the effect of social similarity between foreign central banks and the Federal Reserve on the likelihood of receiving a swap line during the crisis. I introduce new measures of social similarity among central banks with data on employees’ professional ties and public speeches in the years preceding the global financial crisis. Statistical results show a positive, significant effect for social similarity on swap line receipt, even when tested alongside material predictors, and this social rationality appears to have been a deciding feature in some cases of swap distribution. I conclude with implications for future crises, and potential regulatory consequences.