The New Chairman of The Fed.

 

The President has selected Jerome Powell to be the next Federal Reserve chairman. This is the first time in decades that a U.S. President has not reappointed a chairman for a second term. If the Senate confirms the appointment, Powell will succeed Janet Yellen, the first woman to have headed The Fed. Some in Wall Street have criticised Mr Trump for breaking with convention and ending a tradition that the Chair serves two terms. Powell has been one of Yellen’s most reliable supporters in setting monetary policy, so Trump has made a steady-as-she-goes selection. In choosing Powell, Trump has ignored some Senate Republicans who urged him to select a “hawk,” a central banker more prone to steeper and speedier rate hikes.

According to most observers, Yellen has done a good job. However, it is worth remembering that when it comes to breaking with a long held convention, no less a President than Franklin Roosevelt sought a third and fourth term as President. Furthermore, the implied entitlement to a second term as Chairman of the Fed smacks of “buggins turn,” an old Congress tradition, now ended, when those who served the longest had the unfettered right to the plum jobs.

Before my banker friends/readers yell, with some justice, “what do you know about this stuff?” I confess that I am a novice about central banking systems. I am aware that the Federal Reserve, created in 1913, known simply as The Fed, is the central banking system of the United States. It came into force after numerous financial panics when US government decided that central control of the monetary system was needed to head off or ameliorate financial crises. The Great Depression in the 1930s and the Great Recession during the 2000s led to the expansion of the roles and responsibilities of The Fed.

Congress established three key objectives for The Fed in administering monetary policy: maximizing employment, stabilizing prices, and moderating long-term interest rates.  After the 2009 crash in the banking industry, the Fed’s duties widened to include supervising and regulating banks, maintaining the stability of the financial system and providing financial services to depository institutions and the U.S. government. 

The Fed is governed by a Board of Governors, appointed by the President with the advice and consent of the Senate, which is a fancy way of saying that appointments are subject to Senate approval. It follows that the appointment process is political. I explore this aspect later.

As a Brit, I am used to the independence of the Bank of England. For example, since 1997, the B of E has the sole power to set UK interest rates. Likewise, The Fed has a high level of independence as a central bank: its monetary policy decisions are not subject to approval by the executive or legislative branches of the US government. The Fed does not receive funding from Congress and the length of the terms served by Board members span multiple Presidential and congressional terms. However, the Government Accountability Office and an outside auditor regularly audit the Fed, although audits do not cover monetary policy actions nor dealings with foreign governments and other central banks.

In announcing Powell’s nomination, the President said, “if we are to sustain all of this tremendous economic growth, our economy requires sound monetary policy and prudent oversight of our banking system. That is why we need strong, sound and steady leadership at the United States Federal Reserve. I have nominated Jay to be our next federal chairman… because he will provide exactly that type of leadership: He’s strong, he’s committed, he’s smart.” It seems to me that Yellen fits the same description so why Trump should imply criticism of the incumbent is a guess. May be he wants his own nominee, a man, in charge.

Powell, a Republican who made a fortune in the private equity business, has served on the Fed’s board of governors since 2012. Evidently, among the chattering banking classes, he is regarded as only slightly more conservative than Yellen and is expected to maintain the monetary and regulatory policies the Fed has pursued since the financial crisis of 2009. Powell was one of Yellen’s most reliable supporters in setting monetary policy.

There has to be a possibility that Trump and Powell will butt heads. The Washington Post has identified four issues for Powell to confront:

1. This could be the most polarizing vote ever to confirm a Fed chair: Congress did not require confirmation of Fed chair nominations until 1977. Since then, most nominations have been confirmed in bipartisan votes. However, the political parties have favoured different monetary and regulatory policies since the 2009 financial crisis and President Obama’s two appointees to the Fed chair faced a rough entry. When Obama nominated Powell for a Fed Board seat in 2014, fewer than half of GOP senators supported him. Of those, 22 Republican “no” voters are still serving in the Senate. Will they support Powell’s appointment now that he’s a Trump nominee? It would be foolhardy to suggest the present crop of Senate Republicans will not kick up some kind of fuss, although a behind-closed-doors solution cannot be dismissed.

2. How will Powell forge consensus at the Fed? Powell at the top should make little difference in monetary policy, i.e. interest rates and quantitative easing. Powell is expected to continue Yellen’s path of higher interest rates and a shrinking Fed balance sheet. As Powell offers continuity, his nomination should calm market fears of any sudden monetary policy shifts. But the Chair is just one person. Trump has three more Board vacancies to fill and if Yellen leaves the Board when her term ends, Trump will have a fourth. All Trump’s nominees will be involved in shaping the economy’s outlook. Powell’s power might be limited or strengthened. What the nominees tell the President before appointment and what they do after reaching the Board could be different things.

3. Will the new Fed unravel Dodd-Frank’s regulatory policies? Trump and his economic advisers are no fans of Dodd-Frank, the laws that tightened supervision and regulation of the banking industry after the financial crisis. Powell has largely defended Dodd-Frank. He even called the Trump Treasury’s plan for financial deregulation a “mixed bag,” noting some ideas he wouldn’t support. Is there a train wreck on the horizon as a coalition of right-wing politicians and bankers clash against The Fed?

4. Will a Republican Congress ease up on a Republican-led Fed? In President Obama’s time, Congressional Republicans tried to resist The Fed’s monetary policy. Predicting inflation that never occurred, Republicans argued that rates were being kept too low for too long. They also threatened to curtail The Fed’s policy discretion by requiring the latter to follow formulaic rules setting interest rates. When The Fed bought massive quantities of bonds to stimulate the economy in the wake of the crisis, GOP lawmakers accused the central bank of a multitrillion-dollar intrusion into the credit market. As the chair of the House financial services panel warned, “If we are not careful we may wake up one day to find our central bankers have instead become our central planners.”

In this week’s Sunday Times, Irwin Stelzer wrote: “Mr Trump knows the ultimate success of his Presidency depends on delivering a fast-growing economy.” He states that Powell is inheriting a reasonable healthy economy, for which Yellen can take credit. Unemployment is down to 4.1%, the last two quarters’ growth have exceeded 3% and consumer confidence is at its highest for seventeen years. But is all this due to a year of Republican executive policies? Surely, Yellen’s wise ‘steady-as-it goes’ policies must be a major contributing factor.

As an interested observer of the American political system, it would be fascinating to watch a “who rules” fight between Congress, supported by the President, and The Fed, a respected and independent American institution. The Vice-President, Mike Pence, is against Powell, as are more radical members of Trump’s team. They have made known their preference for John Taylor, who has a more radical agenda: faster rises in interest rates and ending printing of cheap money for the banks. In a dog fight, Congress would be bound to be the winner as it has power to change the law and neutralise The Fed. But would the American people support such a fundamental change, removing The Fed’s independence? Even a President as powerful as FDR could not get changes to The Supreme Court.

When President Bill Clinton was elected in 1992, as his first act he wanted to give the middle classes a tax cut. He spoke with Fed chair Alan Greenspan, who told him the bond market would not accept the cut. If this was right, US government borrowing from bond sellers would become far more expensive very quickly and suck up even more taxpayers’money. Clinton gave up the idea. Don’t tell me The Fed has little power.