So about Jerome Powell
On Fed Independence, Powell, and the Trump Administration
It’s been a wild week legally and economically. On Sunday, January 11, the Department of Justice opened a criminal investigation into Federal Reserve Chair Jerome Powell; the investigation is about the central bank’s renovation and whether or not Powell lied to Congress about the scope of the project. It also followed an announcement by the Fed, last Friday, that the Fed was likely to proceed cautiously on implementing interest rate cuts: in the absence of clear evidence of spike in unemployment, the Fed was likely to hold. Trump has had a draft of a letter to fire Powell since July, and has spoken amply about his desire to fire Powell over his second term. Given the vindictiveness of the Trump administration as a whole, this investigation has seemed, to me, like an event that was a long time coming. Since the announcement on Sunday, Powell, Democrats and Republicans in congress, former and current Fed officials, heads of other central banks around the world, and Jamie Dimon have voiced their support for Powell, and their opposition to Trump naming a new nominee to the position (other Wall Street firms voiced their support for Powell back in the summer). A through-line in all of these defenses has been the argument that firing Powell would violate the principle of central bank independence: the ability of central bank leadership to eschew political opinion in how they implement monetary policy.
I’ve written about central banks and the Fed before in this newsletter – in brief, the Federal Reserve (and other central banks) are tasked with determining the monetary base of the economy (how much currency circulates), and influences the conditions under which banks lend by setting and targeting different interest rates. Central banks frequently perform other jobs, like providing support to banks at risk of failure (providing liquidity), and they are usually supposed to make these decisions based on how economic circumstances are likely to influence inflation. For many central banks, their mandate stops at stabilizing inflation; the Federal Reserve is also supposed to conduct policy in order to maintain full employment.
The Federal Reserve is independent insofar as it is not housed in executive, legislative, or judicial branch buildings, and the leadership of the Fed is appointed to four terms staggered with the US President. So, every president is bound to overlap for at least two years with their predecessor’s chosen head; presidents then have the option to reappoint that chair (it happens), or to name someone else. Back in his first term, Trump declined to reappoint Janet Yellen, and opted to appoint Powell. Biden opted to reappoint Powell, and now here we are. The logic for central bank independence is the idea that political leaders have a strong disincentive to target inflation, and strong incentives to promote spending; while the leadership of a central bank is politically appointed, that leadership can make unpopular decisions to raise interest rates without the fear of being voted out of office. Most central banks around the world are independent; by the end of the 20th century, 80-90% of central banks are independent, though for some, that independence is limited1.
The Federal Reserve’s dual mandate gives its leadership a lot of leverage to potentially buck political will. Back in the 2010s, the Federal Reserve frequently deployed expansionary measures even as the Republican congress retrenched toward austerity measures; by contrast, the Federal Reserve’s pivot toward inflation targeting in 2022 stymied many of the intended effects of Bidenomics, as high interest rates hindered investment in high cost physical capital for offshore wind farms, home construction, and more. Something I’ve admired about Powell’s leadership at the Federal Reserve has been his nimble response to large challenges, like the onset of the COVID-19 Pandemic, and his openness to flexibility about how to prioritize unemployment goals versus inflation goals in 2021. I wasn’t as much of a fan when I thought that the Fed was using blunt demand tools to address inflation trends that I thought were more a function of supply constraints, but in hindsight, I accept the logic that was guiding Fed staff in the post-COVID period.
It’s hard not to interpret the investigation into the renovation of the Federal Reserve going over budget as a subterfuge for Trump’s desire to punish Powell2. And this isn’t the first, or even the second, time that Trump has tried to breach the independence of the Fed. In addition to repeated demands for the Fed to lower rates, back in August, Trump announced the he would remove Lisa Cook from her position on the Fed’s Board of Governors for alleged mortgage fraud, despite a lack of evidence that she had; the Supreme Court declined to grant the immediate removal of Cook, and will rule in January on whether a president can legally fire a Fed official this way. Next, Trump appointed the chairman of his Council of Economic Advisors, Stephen Miran, to the Fed’s Board of Governors. Miran argues that his taking a leave of absence from the CEA precludes his being politically influenced in his position, or giving the president an access point into Fed decision making, though Miran himself endorsed a ban on, in his words, the ‘revolving door between the executive branch and the Fed.’
What this means is uncertain: how the Supreme Court rules on the attempt to fire Cook, how Congress responds to an attempt to name a new Fed Chair, how the prosecution into Powell fares, there are many variables. But I’m paying particular attention to this given its brazenness, and also thinking about not uncommon critiques of central bank independence that have proliferated in recent years, including arguments that the Fed should venture beyond its employment and inflation mandates, in light of evidence of what happens when a president clearly tries to bend the Fed politically toward his will right now.
We’ll see what happens!
Hello everyone – a brief bit of business: as the spring semester shapes into a busy one, I’m going to be downshifting into writing newsletters every other week. If I’m feeling particularly verbose, you may get more frequent updates between now and the summer; I appreciate your patience as I figure out the best rhythms for this project. Thank you, as always, for reading!
I don’t enjoy the fuzziness of 80-90%, but that’s the figure in Andy Haldane’s address on the topic that even the ECB refers to, and I really wanted to get this newsletter out before the weekend! Maybe I’ll do a deep dive to come up with an official number.
Especially in light of the Trump administration’s ‘renovation’ of the East Wing of the White House, which looks like a great opportunity for donors to curry favor with the administration.