Specifically, the US Congress needs to alter the Fed's policy mandate to include an explicit reference to financial stability. The addition of those two words would force the Fed not only to aim at tempering the damage from asset bubbles but also to use its regulatory authority to promote sounder risk management practices. Such reforms are critical for a post-bubble, crisis-torn US economy.

This is not the first time the US Congress has needed to refine the Fed's mandate. After the great inflation of the 1970s, the so-called Humphrey-Hawkins Act of 1978 was enacted. That required the Fed to add price stability to its original post-second world war policy target of full employment. In the late 1970s, Congress felt the Fed needed the full force of the law to tackle a corrosive inflation problem. This legislative change empowered Paul Volcker, a later Fed chairman, in his courageous assault on double-digit inflation.

By focusing on financial stability, the Fed will need to adjust its tactics in two ways. Firstly, monetary policy will need to shift from the Greenspan-Bernanke reactive, post-bubble clean-up approach towards pre-emptive bubble avoidance. Second, the bank will need to be tougher in its neglected regulatory oversight capacity.