If you’re looking for drama surrounding this week’s meeting of Federal Reserve officials, don’t look for it in their post-meeting statement. Policy makers are almost universally expected to raise their benchmark lending rate. Keep an eye, instead, on President-elect Donald Trump’s Twitter feed.
He was a harsh critic of Fed Chair Janet Yellen during the election campaign, and how the nation’s incoming chief executive reacts to the expected hike on Wednesday may reveal much about whether and to what extent Trump will try to pressure the central bank through the remainder of her current term, which expires in February 2018.
Investors have already pushed up bond yields since Trump’s surprise Nov. 8 election win in anticipation of higher inflation. They are likely to take note of any White House bullying of the Fed, which is expected to continue raising rates next year, albeit at a very gradual pace.
“It’s an important thing to keep an eye on,” said Donald Kohn, a former Fed vice chair who is now a senior fellow at the Brookings Institution in Washington. “It helps policy making, and the public perception of policy making, if the administration is not publicly commenting. It reinforces the idea of a monetary authority independent from short-term political pressure. Eroding that would be moving in the wrong direction.”
While the Fed has faced more severe pressure from past presidents than a Twitter tantrum, the last three administrations under Bill Clinton, George W. Bush and Barack Obama have refrained from publicly commenting on policy decisions. That could change under Trump, who slammed the Fed during his election campaign and has demonstrated repeatedly his willingness to flout the conventions and sensibilities of establishment Washington.
If their own public comments are any clue, that already has Fed officials squirming.
Since the election, Yellen, Fed Vice Chair Stanley Fischer, Governor Jerome Powell and at least four of the system’s 12 regional bank presidents have spoken about the importance of monetary policy independence, and not just because it’s a Washington protocol. They pointed to a significant body of research showing monetary policy that’s insulated from short-term political pressure results in a stronger economy.
When monetary policy is driven by politicians worried about re-election, the results can be disastrous. In Brazil in 2012, for example, then-President Dilma Rousseff said publicly that borrowing costs were too high, leading to multiple rate cuts. Inflation later surged to more than a 10-year high.
In the U.S., the Federal Reserve Act offers political insulation for the Fed by specifically exempting its monetary policy decisions from ongoing scrutiny by Congress, though the Fed chair must appear before Congress twice a year to answer questions. Presidents nominate governors, as well as the Fed chair and vice chair, subject to Senate confirmation, but cannot fire them mid-term.
While it’s been many years, the White House has also been known to exert other forms of pressure. In December 1965 Lyndon Johnson famously summoned Fed Chairman William McChesney Martin to his ranch in Stonewall, Texas, to confront him over Martin’s decision to lift rates. Martin held his ground.
The same couldn’t be said for Arthur Burns under Richard Nixon. Oval Office tapes later revealed that Nixon demanded Burns goose the economy with low rates ahead of the 1972 election. When Burns didn’t immediately cooperate, the White House planted a false story in the press that Burns was seeking a big pay raise, according to a book by Nixon speech writer William Safire. Eventually Burns relented, aiding Nixon but also helping to feed runaway inflation that dogged the U.S. economy for nearly a decade.
The last known example of U.S. presidential strong-arming came when George H. W. Bush was fighting for re-election. Bush’s White House pushed Alan Greenspan behind the scenes on rates and openly called on the Fed to lower its benchmark in June 1992. Greenspan did lower rates 13 times over 1991-92, but slowed the pace of cuts in the latter year, much to the White House’s annoyance.
Since then, presidents have largely left the Fed alone, at least in public. So any open reproach by Trump would be a return to old habits.
Peter Conti-Brown, an assistant professor at the University of Pennsylvania’s Wharton School, said Fed watchers shouldn’t be fooled by Trump’s campaign rhetoric, in which he chided the Fed for not raising rates. He predicts that, like past presidents, Trump will favor loose monetary policy.
“Even if he praises the Fed this week, that does not tell me that when the rubber hits the road ahead of the mid-term elections that he won’t turn on the Fed as a convenient scapegoat,” he said. U.S. congressional elections will be held in November 2018.
And unlike recent presidents, he’s likely to go public with his ire if policy tightens, Conti-Brown added.
“Trump just launched a war on the entire intelligence community,” he said, referring to Trump’s rejection of the Central Intelligence Agency’s reported assertion to congressional leaders that Russia attempted to influence the U.S. presidential election. “Why on earth would you expect him to honor that tradition?”
Neither Kohn nor Luke Tilley, a former staffer at the Philadelphia Fed and now chief economist at money manager Wilmington Trust Corp., believe pressure from Trump will alter decision making on rates at the Fed. Still, Tilley said, a critical White House can boost the likelihood that Congress will act to reduce the central bank’s statutory independence or otherwise cut its authority.
Several proposed Fed reforms that previously failed to gather widespread support in Congress, even among Republicans, are included in a package being readied by Jeb Hensarling, chairman of the House Financial Services Committee. These include provisions that would force the Fed to follow -- or constantly justify their deviation from -- a formulaic rule for determining interest rates, give more oversight of the central bank to Congress’s Government Accountability Office and reduce the Fed’s regulatory and emergency lending powers.
“The Fed fears the possibility of there being enough political momentum to start making changes to the Federal Reserve Act,” Tilley said. “The risk would be if Mr. Trump started to draw attention to the Fed and got more people on board for making change.”
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