Ricochet is the best place on the internet to discuss the issues of the day, either through commenting on posts or writing your own for our active and dynamic community in a fully moderated environment. In addition, the Ricochet Audio Network offers over 50 original podcasts with new episodes released every day.
Why Wars on the Fed Aren’t Good or Easy to Win
President Donald Trump and chairman of the US Federal Reserve Jerome Powell.
It’s not unreasonable to criticize Fed policymaking. Except maybe if you’re the American president. There’s good reason it’s considered exceedingly bad form and poor governance to do what Donald Trump is doing right now in his escalating critique of the Powell Fed, first on CNBC and then via Twitter. If you value economic stability, then you probably don’t want the president using political pressure to influence the US central bank. It can get really ugly.
In the 1960s, President Johnson went to war with the fiscally conservative Fed boss William McChesney Martin, who worried about the inflationary risk from LBJ’s guns-and-butter economic policies. Johnson saw Martin’s tighter monetary policy as undermining his agenda, even asking the US attorney general if a president could remover a Fed board member from office. After the Martin Fed raised the discount rate in late 1965, LBJ summoned Martin to his Texas ranch to explain himself, leading to the famous confrontation where the president pushed the shorter Martin against a wall and told him that “my boys are dying in Vietnam, and you won’t print the money I need.” Martin stood his ground policywise and is praised for helping maintain Fed independence (although he probably should have tightened more aggressively).
Then there was Richard Nixon vs. Arthur Burns, where the president pressured Burns to run an expansionary monetary policy in the run-up to the 1972 election. As is recounted in the paper “How Richard Nixon Pressured Arthur Burns: Evidence from the Nixon Tapes” by Burton Abram, this was done both through face-to-face conversation — as White House audio recordings reveal — and through other tactics such as leaks that Nixon was considering expanding the size of Fed membership or otherwise giving the White House more control over monetary policy. Abram concludes:
Without invoking political pressure, the surge of expansionary monetary policy leading up to the 1972 election seems hard to explain. After all, Arthur Burns knew better than to run a heavily expansive monetary policy after the recession had ended in November 1970 and in an already-inflationary environment. … It is hard to understand how a man of Arthur Burns’s experience, intellect, and political know-how could be pressured into abandoning his better judgment. … Whether Burns responded to political pressure or out of personal economic convictions to return the economy quickly to full employment may never be definitively determined. Yet, one wonders, had there been no political connection between Burns and Nixon, would Burns have been so eager to run an expansionary monetary policy in late 1971 and into 1972? Without the political connection, might Burns instead have sided with his Vice Chairman Alfred Hayes in arguing against greater monetary ease? Regardless of the ultimate source of Arthur Burns’s motivation, his actions as Federal Reserve chair helped to trigger an extremely costly inflationary boom– bust cycle.
After the economically volatile 1970s, presidents learned their lesson. Ronald Reagan famously supported the extraordinary tightening cycle launched by Paul Volcker despite enormous criticism amid rising unemployment. (As the Minneapolis Fed noted in a 2009 interview with Volcker, “Building contractors shipped 2x4s to his office and farmers protested on tractors in front of the Fed; one powerful congressman demanded his impeachment.”) But Reagan didn’t abandon Volcker. As George Shultz, secretary of state under Reagan, once put it:
Published in EconomicsWell, to do something difficult, even if you are the independent Federal Reserve, it makes a huge difference if the president is on your side and is strong and understands the problem, and when things get tough he doesn’t go the other way and denounce you, but holds in there. That was one thing about President Reagan: He understood these major developments, and he wanted to be president because there were things he wanted to do as president. And so when he took actions that he thought were right, knowing that there could be difficulties, he stuck with them, he didn’t run away. He had a stiff backbone.
The Fed has been run poorly for decades. As long as they fail to adopt NGDPLT rule-based system, they are screwing up and should lambasted continually. They should be criticized for not having a rule-based system and because they are using their “gut” and thus open to pressure from all sides.
For those wanting an expansion on the acronym: NGDPLT
I’m suspicious of the Fed. Here’s a “chart” of how it’s organized from Wikipedia. I don’t know how it’s really run. I have only a vague idea of what they do, how they do it, and that they do it in secret.
Not only that, but the members of the board are appointed to 14 year terms. Is there another federal commission where the members are appointed to 14 year terms?
I’ve heard roughly the same thing said about the CIA near the beginning of Trump’s term.
I don’t understand much of this either. Where is the constitutional authority and accountability?
There is neither.
James, I think it is terribly disingenuous to criticize the President’s comments of the FED and to compare them with Presidential/FED disputes of the 60’s, 70’s and 80’s without giving a greater context of the difficult monetary situation the FED and our country face today.
Due to the reckless QE policies of Bernacke and Yellen, we are in incredibly unchartered monetary policy waters today. Bernacke and Yellen in their Quantitive Easing experiment bought roughly $3.6 Trillion in government obligations which expanded the amount of government obligations the FED owned by several times. Such a move normally in classical terms should have been incredibly inflationary. The only seemingly reasonable supposition, of which there is wide room for argument, why there wasn’t horrible inflation is that the economy was in such bad shape combined with the Obama Administration’s stridently anti-growth policies that inflationary pressures were not strong enough to overwhelm us. But we really don’t know.
It was recognized even by Yellen that QE caused enormous problems and significantly distorted market forces of the economy, while also punishing among other entities, pension funds and insurance companies, which cannot survive on near zero interest rates.
So, faced with the enormous market distortions caused by QE, our new FED Chairman Jerome Powell has embarked on the equally radical policy called Quantitative Tightening, that seeks to reduce the monetary supply $400 billion this year, and $600 billion in several years afterward to mop up excess inflationary FED reserves.
It should be noted that only once before in FED history, has the FED significantly reduced the money supply. That was in 1931 in response to European bank failures, and that move has been credited by many as the principal reason that caused the Great Depression.
So no one should assume that this FED QT move is not one of great peril. In “What can QE tell us about QT? from Peter Cook at Zerohedge argues:
“In this article, we show that the Fed’s QE policy produced the counterintuitive result of higher yields on Treasury bonds, not lower yields as implied by supply/demand analysis. Using symmetrical logic, the Fed’s QT policy should be expected to reverse the effects of QE, and to produce the counterintuitive result of lower yields, not higher yields implied by supply/demand analysis. “
His take is more reassuring that classical economics would assume. I sure hope Peter is right, but my best guess is that he is only at best partially right. My seat of the pants, non-economist speculative guess though is that Powell’s QT is far too aggressive and will send the economy into recession if pursued as outlined. The Bond, Stock and Real Estate markets all have become far too addicted to very low interest rates to not take a big recessionary dump with the return of even moderate rates. For these reasons alone, a far wider debate of FED behavior needs to happen.
Article 1 section 8.5: [Congress shall have the power] To coin Money, regulate the Value thereof, and of foreign Coin, and fix the Standard of Weights and Measures;
Congress has delegated the authority to Fed and indirectly the executive.
There’s other generic court rulings that say congress cannot delegate its powers. Unless it can. It’s all so confusing.
Lawyers.
Oh and remember, the Fed is a part of the executive. Yet the president has no control over it.
And that is a serious problem. Not to mention that savers have been getting raked over the coals while debtors have been getting government largesse. If a recession is the price to wring that addiction out of the economy then so be it. The Voelker Fed certainly pulled no punches to wring the 70’s inflation out of the system. And the economy boomed once the excesses were removed. It’s time to remove the Fed’s dual mandate and let them focus on one achievable thing.
Ekosj, Perhaps.
But the real cause of inflation in Housing, Food, Health Insurance, College Tuition and Energy costs are not an overheated economy or excess monetary supply.
The cause for much of the inflation in the real cost of living is overheated government regulation and/or subsidies and other market distortions. That cause the FED has ignored for almost my entire adult lifetime and I am an old fart. No FED Chairman has ever really wanted to fight the real inflation that affects real Americans, only that inflation that affects the corporate world. The FED has also rigged the game so each successive crisis concentrates more wealth and power in the hands of corporate elite and the big banks. For example, in the early Clinton Administration, Big Banks only had a 16% market share; now it is over 60% and growing.
However, what I fear most is that a recession caused by Quantitive Tightening will be a massive one, and that the media will overwhelmingly and effectively blame either Trump or the Free Market or both, because 90% plus of the American Public have no idea what the FED does, much less of the predicament we are in. I also fear that recession may be coup de grace for our Republic, just the miserable gut wrenching upheaval to bring on the Progressive dream – a Marxist revolution and a dissolution of the Republic.
Except I’m not making an anti-inflation argument. I’m making an argument to return Interest rates to normal. Return to levels where savers are rewarded for their thrift and private lenders are compensated for taking risk. Return to a situation where creditors are not harmed in deference to debtors. I’m citing the anti inflation Voelker Fed as an example of a Fed doing what was right rather than expedient.
You appear irritated that the Fed takes no action against the “real causes of inflation” – government spending and regulation. The Fed has no mechanism to address those issues nor should they. Those are legislative or executive issues whose solutions lie in the political arena.
You assert the popular conspiracy theory that the Fed “The FED has also rigged the game so each successive crisis concentrates more wealth and power in the hands of corporate elite and the big banks”
That’s just nonsense. Sorry but it is. There is no “rigged game”. The Fed, the Bilderbergs, the Jesuits, they wish they had that much power. What there is, is “too big to fail” which is a political decision made by the elected branches of government. The Fed just applies the rules as given to them.
The Fed has a “dual mandate” … two targets they are required by statute to try to hit. Their two goals are price stability and maximum sustainable employment. The one tool at their disposal is the money supply, through which they can impact interest rates. So, during recessions for example, when unemployment spikes up, the Fed – by statute – must take action.
This “we must aggressively combat recession with every available tool every time it appears” attitude is the source of many of our problems. Recessions in the economy, like fire in a healthy forest, is a natural, healthy part of the process. Fire clears out the undergrowth, takes down weak and sick trees and makes room for new growth. There are seeds that won’t germinate until after the heat of a fire. By spending decades fighting all fires with maximum effort, what we have done in forests is set the stage for fires that are too big to put out. Recessions should serve the same function in an economy. Clear out the bad ideas and weak businesses to make room for new business to develop. By aggressively fighting every downturn – and all branches of government and both parties have done and continue to do this, not just the Fed – we perpetuate these firms that should have been allowed to fail. There is a great quip on this topic from Nassim Taleb … “You know why there is such good food in NYC? Because bad restaurants don’t last long.”
to be continued …
So, instead of letting recessions run their course we undertake policies to keep recessions from doing what they should do. To use Taleb’s analogy, we are keeping bad restaurants open at the same time we are bemoaning the fact that we can’t find decent pizza. We can’t repeal the business cycle. All we have done is set the stage for a recession too big to stop. That is already baked in the cake.
Worrying about the next recession is pointless. We are going to have one – they are natural – but because the economy is addicted to government support it is not in any shape to endure one. Trying to stave it off is only going to make it worse when it finally arrives. The best thing is to start removing the government support now, and hope we have a few years to get healthy again before the next recession arrives.
I am also for returning to the normalization of interest rates, but it needs to be done slowly and prudently. Not rashly as in pulling the equivalent of 2% of the GDP out of the money supply in one year.
What you fail to acknowledge is that the FED acted totally without authority, unconstitutionally when it recklessly imposed QE as Don, Joel and Randy complained about.
You say the system is not rigged. Well why did the market share of the banking system for the Big Banks zoom from a paltry 16% under Clinton to over 60% under Obama, and in the process wipe out many of the smaller banks that lent to small business? Timothy Geithner and Ben Bernacke worked hand in glove to reward the criminality of the Big Banks with a huge increase in market share and to impose regulations that heavily tilted the playing field to the Big Banks and big corporate borrowers.
The Boston FED started off the Mortgage Bond derivative mess under Clinton by weaponizing the Community Redevelopment Act into a mortgage welfare program, and then oversaw it’s criminal growth. Most people don’t realize that the current Mortgage backed security scheme the FED, the Treasury, the SEC and the Big Banks oversaw violates county recordation law in virtually every county in the country. Then the SEC let the Big Banks, once they were allowed to be securities dealers, fraudulently sell those junk bond MBS as Triple A rated bonds. Why were Fannie Mae and Freddie Mac allowed to con so many people?
Why are only the Big Banks and the Big hedge funds allowed access to the Discount Window? Why are only the Big Banks allowed to skirt loan reserve requirements under the Basil II accords? If Lehman and Bear Stearns were forced to have the proper loan reserve requirements the Panic of 2008 and the resulting QE would probably have never happened.
The implicit point in James ‘s post was that is not wise to criticize the FED. Particularly for a President. That is the problem. To the contrary, far too few Americans understand the workings of the FED and our government’s involvement in our financial system and instead need to vehemently criticize the actions of the FED and other agencies when they do wrong. Because of that lack of scrutiny, knowledge, and accountability , our government with our financial system, as it has at the DOJ, FBI , EPA, Labor, yada, yada, yada run completely amok, and boy howdy are we paying the price.