Politicians have had strong opinions on what the U.S. Federal Reserve should and shouldn’t do throughout its 105-year history.
They have pushed for lower interest rates and easier money, or for this or that policy on bank regulation or consumer protection. They have summoned Fed leaders to the White House or Congress to persuade and cajole.
In that sense, there is nothing new in President Donald Trump’s aggressive approach to the Fed. This week, he called for lower interest rates and new quantitative easing, and he signaled an intention to appoint two vocal supporters, Stephen Moore and Herman Cain, to the board of governors.
What makes Mr. Trump’s approach to the Fed so unusual is that he has repeatedly, publicly undermined a Fed chief he appointed (Jerome Powell), and, if successful, he would put two officials with a background in partisan politics in the inner sanctum of Fed policymaking. (Mr. Moore was founder of the Club for Growth, which supports conservative candidates for office, and Mr. Cain ran for president.)
“It’s more overtly political than anything we’ve seen since at least the ’80s, and historically when we’ve had political appointments and interventions in the Fed, there have been unintended consequences that last,” said Julia Coronado, president of MacroPolicy Perspectives and a former Fed staffer. “It may be expedient in the near term, but what’s good for the next year or two may not be good for the next decade.”
All presidential appointees to the Fed’s board of governors come with their own political point of view, which generally dovetails with the president who appointed them. But typically they have also brought deep technical expertise and an inclination to keep political dimensions out of Fed debates.
“People around the table did have political views, and I did, too,” said Alan Blinder, who was appointed vice-chairman of the Fed by then-president Bill Clinton and is more recently the author of Advice and Dissent, about the role of politicians versus technocrats in shaping policy. “But you weren’t supposed to bring them into the room when it was time to make a decision, and people didn’t.”
That is the tradition that Mr. Trump’s approach endangers.
You can read thousands of pages of transcripts of closed-door Fed policy meetings without seeing a reference to the political jockeying that occupies the rest of Washington.
Three times in recent decades a president has reappointed a Fed chairman first named by a president of the opposite party (Ronald Reagan with Paul Volcker, Mr. Clinton with Alan Greenspan and Barack Obama with Ben Bernanke).
You will see no political bumper stickers in the underground parking garage. When Dan Tarullo, an Obama campaign veteran and a banking expert, was named a governor in 2009, there was some tut-tutting among staff that he initially left his sticker on.
In effect, the risk is that the Fed becomes yet another partisan battlefield, as is often the case with the Supreme Court nomination process, congressional intelligence oversight committees and regulators like the Federal Communications Commission.
In the immediate future, this probably wouldn’t mean much for policy. If nominated and confirmed, Mr. Moore and Mr. Cain would hold two of 12 votes on the Federal Open Market Committee. Their ability to sway the Fed toward Mr. Trump’s desired interest rate cuts and a new round of quantitative easing would depend on their ability to persuade their new colleagues.
“It will be their task to convince the others that their way of thinking about monetary policy will improve the Fed’s ability to meet its legislative mandates for maximum employment and stable prices,” said Don Kohn, a former Fed vice-chairman who was appointed by George W. Bush. “That will require solid economic analysis backed up by research.”
The risk of more overt political divisions within the Fed would come over time, if the Fed came to be seen as basing decisions on the political impulses of appointees rather than on sound economic analysis.
The United States’ role as the global reserve currency — which results in persistently low interest rates and little fear of capital flight — is built in significant part on the credibility the Fed has accumulated over decades.
During the global financial crisis and its aftermath, for example, the Fed could feel comfortable pursuing efforts to stimulate the U.S. economy without a loss of faith in the dollar and Treasury bonds by global investors. The U.S. dollar actually rose against other currencies even as the economy was in free fall in late 2008, and the Fed deployed trillions of dollars in unconventional programs to try to stop the crisis.
The hazards of a more politicized Fed are evident from the experience of the early 1970s, when Richard Nixon used both political pressure and underhanded tactics to try to push the Fed chairman, Arthur Burns, to keep interest rates low heading into the 1972 election.
Among other things, the White House leaked a false story that Mr. Burns sought a large pay raise at a time the Fed was pressuring employers not to increase wages to fight inflation.
Mr. Burns and the Fed followed the president’s wishes, and Mr. Nixon won re-election handily in 1972, amid a booming economy. But it was in those years that inflationary pressures were building in the economy, and within a few years the rate of inflation reached double digits.
No one would argue that the Fed is divorced from politics. It is constantly making decisions that pit the interests of workers against owners of capital, and those of banks against those of consumers. But there is a difference between acknowledging that there are choices that must be informed by political values and putting those political values ahead of what are often highly technical discussions.
In Senate confirmation hearings, would Mr. Moore and Mr. Cain adopt the cautious, careful language typical of central bankers — or embrace a role as partisan warriors?
The safest bet is that investors around the world will be watching carefully for hints of just how politicized the Fed of the future will turn out to be.