DDuring his presidency, Donald Trump repeatedly complained that the Federal Reserve was doing things that he believed were bad for the economy – Federal Reserve complaints ignored. If Trump wins a second term, he could work to make sure the Fed listens to him.
Both Trump and his running mate, Ohio Senator JD Vance, argue that the President should have more power over one of the Fed’s most powerful tools: setting interest rates.
“I feel like the president should at least say, yes, I feel that strongly,” Trump said last week. at a press conference in Mar-a-Lago. “I think I have a better instinct than, in many cases, people who would be at the Federal Reserve or the president.”
It’s a move that would represent a sea change for the United States, with ripple effects around the world, as the Fed’s independence from politics is widely seen as fundamental to its ability to effectively manage U.S. monetary policy. .
Several economists who spoke to TIME raised concerns that Trump’s proposal would lead sitting presidents to pressure the Fed to pass policies that may be advantageous during election years but could have dangerous consequences for the long-term health of the economy. .
“This sets the system up for abuse,” says Robert Barbara, director of the Center for Financial Economics at Johns Hopkins University.
For decades, presidents’ influence over the Fed was largely limited to the appointment of its chairman and board of governors. It is not uncommon to see Federal Reserve chairmen reappointed by presidents of different political parties. Current Federal Reserve Chairman Jerome Powell was initially appointed by Donald Trump before being reappointed by President Joe Biden.
Short term versus long term
Economists say politicizing the Federal Reserve would be harmful regardless of which party is in charge, because of the unique tradeoffs the Fed faces in meeting his double mandate of seeking maximum employment and managing inflation.
Keeping inflation low, in particular, can be tricky. Sometimes it can lead the Fed to make decisions that increase the risk of recession in the short term to keep inflation under control in the long term.
For most of the Biden era, the Federal Reserve has been battling higher inflation in more than 40 years. Their main tool for trying to reduce inflation has been increasing the Federal Funds Rate, the interest rate that banks are required to charge each other for overnight loans. When the Federal Funds Rate increases, moving money between banks becomes more expensive. This leads to fewer dollars circulating throughout the economy, which generally helps reduce inflation, but also increases the risk of a recession.
Ryan Chahrour, professor of economics and international studies at Cornell University, says politicians typically operate under “short-term incentives” of preference for economic growth, especially just before an election. This often means advocating for keeping interest rates low.
“This would often lead to inflationary bias, which is a tendency for the central bank to allow too much [economic growth] in the short term and cause inflation to be higher”, says Chahrour.
How did we get here
The Federal Reserve has not always been apolitical. In the 1970s, the institution struggled to keep politicians’ short-term desires in check, leading to high inflation, reaching 13.5% in 1980.
President Jimmy Carter made controlling inflation a priority of his administration. Once elected in 1976, Carter sought a new Federal Reserve chairman who would be willing to fight inflation, even if it meant risking a serious recession. He decided to nominate then-president of the Federal Reserve Bank of New York State, Paul Volcker.
Volcker worked with the Fed to set interest rates that were unusually high for the time. The economy has passed two recessions in a two-year period. When Volker mandate ended in 1987, inflation moderated to 3.7%. “The most independent of the central bankers was Paul Volcker,” says Barbara. “He killed the great inflation by ignoring political scrutiny.”
Volker helped establish the standard that the Federal Reserve should operate largely independent of politics, according to economists who spoke to TIME.
What does Trump want to do?
Both Trump and Vance have recently suggested that they could do a better job setting the Federal Funds Rate than the Federal Reserve experts.
“You have so many bureaucrats making so many important decisions,” Vance said in an interview with CNN which aired on Sunday. “If the American people don’t like our interest rate policy, they should elect someone different to change that policy. Nothing should be above democratic debate in this country.”
Although Trump nominated Powell to take over as chairman of the Federal Reserve in 2017, the former chairman repeatedly criticized Powell and pressured him to lower interest rates during his presidency. “When Trump was in office and seeking reelection, he was upset because Jerome Powell kept interest rates too high, and when Trump is out of office, he was upset because Powell kept interest rates too low,” says Chahrour.
Read more: Donald Trump on what his second term would be like
In other words, Trump advocated a monetary policy that was more likely to increase inflation while in power, but that could also boost the economy in the short term, potentially increasing his chances of winning an election. When he was out of power, he advocated a more restrictive policy that would likely lower inflation but also hurt the economy and make the Biden administration look worse in the short term. “It appears that Trump is actually responding to these very well-understood incentives,” says Chahrour.
Vice President Kamala Harris, Trump’s opponent in the 2024 elections, said she disagrees with his position. “The Fed is an independent entity and as president I would never interfere in the decisions the Fed makes,” Harris said told reporters on Saturday in Phoenix, Arizona.
This story originally appeared on Time.com read the full story
