With recession odds rising and the stock market down, it is no surprise that President Trump thinks the Fed's ‘wait-and-see’ approach to rate cuts is a mistake.
The October 2022 gilt episode was not just a moment of poor judgment. It was a hinge in the perception of UK macro-policy. A reminder that even in mature, developed markets, institutional capital is conditional. The credibility that took decades to build can, under the wrong conditions, begin to fray in days. And once the veil of reliability is pierced, it is exceedingly difficult to stitch back together.
Very true. In a fiat monetary-system the value of the currency is determined, not by a ratio to some hard commodity like gold, but rather by the confidence the FOREX traders have at any particular moment.
Much depends upon the definition of "value" in that statement. Arguably the "value" of a currency is established via the price the sovereign issuer (which is a monopsonist of sorts for certain categories of purchase, and a monopoly issuer -- including via its chartered commercial banks -- of its currency) is willing to pay for particular products and services for sale in its currency. As for FOREX traders, a floating currency is a feature, not a bug ...
The ultimate price of a currency (relative to another currency) is determined at the FOREX auction. That is all I was saying. It does not contradict anything you said. I agree.
Government bonds’ yields aren’t just market data points; in some circumstances they became tools of discipline. Markets have the power to force the hand of entire governments. They don’t just react; they call for clear and sustainable actions. It doesn’t matter how large a country’s GDP was, how modern its institutions, how strong its military, or how charismatic its leadership. If the market’s confidence is lost, the consequences are immediate and brutal.
I understand that there are segments of the population who believe this, and perhaps they have good reason to do so given experiences within their own lifetime in the polities where they lived. But the historical record also demonstrates many circumstances where sovereigns simply executed their creditors, and there is no reason to believe that it cannot happen again.
One observation: one can still make forecasts, but those forecasts, due to the novel exogenous shock (eg, see Navarro policies), must be presented with a wider confidence range. The wider confidence range is usually referred to in the business press as "uncertainty." But for those making long-term, illiquid investments (eg, building a manufacturing plant), the wider confidence interval describes how you will lose your job.
"[A]ny careful study of Fed independence would lead the administration to the correct decision to keep Powell and stop pressuring the Fed to lower rates." Agreed, but does "careful study" sound like Trump?
The problem is that the Federal Reserve consistently favors creditor, Wall Street, and employer interests over worker and borrower interests. Without some viable avenue to address these concerns aside from "suck it up, people are too stupid to know what is good for them", the Fed's legitimacy will not survive. Judicial independence is a much stronger norm than anything the Fed has, but that has not held up against a loss of legitimacy. What is going to bail out the Fed this time?
I think its too often forgotten by most economists that the interest payments manly due to the rate hikes from the fed were a huge part of the deficit spending that helped to support the economy. Cutting rates might provide a relief rally to stocks but cutting rates alone won't prevent a recession and especially when this administration is planning austerity measures and tax cuts for the rich as well.
So much of this argument of central bank independence is based on belief and faith. It’s all “if this were to happen, then the result would be…” none of which is based on any real life data. You can’t know whether lowering interest rates would reduce inflation or raise inflation because you can’t test the counterfactual.
My view is that lowering interest rates would lead to lower inflation and lower economic activity because it would result in less interest payments going from the government to the non-government sector. That would ultimately reduce the fiscal pulse and lead to lower economic growth.
Further, wage demands are really a residual of labour market conditions - not so much a belief in whether inflation will be higher or lower in 10 years time, or whether short term rates are being decided by an elected or unelected government official.
the indiscriminate and unintelligent nature of Trump and his adminstrations comments on the Fed are mind boggling, we really have an arsonist-in-chief in the WH.
Fantastic read thanks for putting this together. I generally view Central Banking as a negative - but I found the point on central banking independence and the public’s trust of said institution compelling. Nice one!
Totally agree with this — if the Fed caves to political pressure, it screws up the whole system. Inflation would get worse, not better. Independence isn’t perfect, but without it, things would spiral fast.
Isn't the kind of President like Donald Trump the very reason why it's preached that central bank should be 'independent'?
Try to imagine if Trump could influence monetary policy just like he's implementing his on-again-off-again-on-again Tariff flip flops. The rates will rise tomorrow but they will fall one week later and may rise again arbitrarily next month. Can an economy function under such uncertainty?
As much as we wish for accountability and transparency at central bank, we also want technocratic independence and competence at central bank. That's why central bank should be kept away from political cretins.
Claudia, what do you think of Warren Mosler’s proposal for Congress to pass a law to set the Fed’s overnight rate at zero permanently, or Randall Wray’s idea to keep it at 1% or maybe 2%? I don’t think interest rates are effective for managing inflation. Scholars argue there’s little evidence they work. Instead that’s a job for fiscal policies.
Since 2008, the Fed’s Interest on Reserve Balances (IORB) has set a floor for the funds rate, so there’s no need for traditional reserve management with changing interest rates. Treasuries remain the safest place for saving dollars, so why pay money to wealthy holders to park their wealth risk free? Set the rate and leave it. Also, expand FDIC to cover 100% of deposits and let banks compete on deposit and loan rates. If we did this, why sell bonds at all? But, that's for another discussion. :)
This would let the Fed focus on payments, financial stability, and bank regulation, while Congress manages inflation and full employment through fiscal policy. Fixing the overnight rate would also remove market uncertainty and stabilize longer-term rates, such as the 10-year notes.
I must confess I'm rather impressed with Powell's performance. In spite of being Republican, maybe conservative, and having been nominated by the Orange Scourge himself, he's taken a nice cautious, middle of the road approach. One could argue that he didn't pounce quickly enough to control the covid triggered inflation, but I'd say he was pretty much on target overall.
He will do well to continue ignoring the Idiot in Chief's rants, and continue following the rational path.
One could also say that the "covid triggered inflation" was primarily a consequence of supply shocks which themselves cannot be addressed by monetary policy.
Indispensable context and perspective which make your posts must reading for all concerned.
The October 2022 gilt episode was not just a moment of poor judgment. It was a hinge in the perception of UK macro-policy. A reminder that even in mature, developed markets, institutional capital is conditional. The credibility that took decades to build can, under the wrong conditions, begin to fray in days. And once the veil of reliability is pierced, it is exceedingly difficult to stitch back together.
https://open.substack.com/pub/marketszoon/p/sero-sapiunt-fhriges?r=58uzcq&utm_campaign=post&utm_medium=web&showWelcomeOnShare=false
Very true. In a fiat monetary-system the value of the currency is determined, not by a ratio to some hard commodity like gold, but rather by the confidence the FOREX traders have at any particular moment.
Much depends upon the definition of "value" in that statement. Arguably the "value" of a currency is established via the price the sovereign issuer (which is a monopsonist of sorts for certain categories of purchase, and a monopoly issuer -- including via its chartered commercial banks -- of its currency) is willing to pay for particular products and services for sale in its currency. As for FOREX traders, a floating currency is a feature, not a bug ...
The ultimate price of a currency (relative to another currency) is determined at the FOREX auction. That is all I was saying. It does not contradict anything you said. I agree.
Government bonds’ yields aren’t just market data points; in some circumstances they became tools of discipline. Markets have the power to force the hand of entire governments. They don’t just react; they call for clear and sustainable actions. It doesn’t matter how large a country’s GDP was, how modern its institutions, how strong its military, or how charismatic its leadership. If the market’s confidence is lost, the consequences are immediate and brutal.
I understand that there are segments of the population who believe this, and perhaps they have good reason to do so given experiences within their own lifetime in the polities where they lived. But the historical record also demonstrates many circumstances where sovereigns simply executed their creditors, and there is no reason to believe that it cannot happen again.
Well, the Bank of England had a hand in that episode, and one that committed small-d democrats might well question ...
Thank you for your experienced perspective on this. Very helpful.
As an FYI, here's a link to a book (dissertation) on this general topic:
Bankers, Bureaucrats, and Central Bank Politics: The Myth of Neutrality
https://faculty.washington.edu/cadolph/index.php?page=10
One observation: one can still make forecasts, but those forecasts, due to the novel exogenous shock (eg, see Navarro policies), must be presented with a wider confidence range. The wider confidence range is usually referred to in the business press as "uncertainty." But for those making long-term, illiquid investments (eg, building a manufacturing plant), the wider confidence interval describes how you will lose your job.
fool
"[A]ny careful study of Fed independence would lead the administration to the correct decision to keep Powell and stop pressuring the Fed to lower rates." Agreed, but does "careful study" sound like Trump?
Nope, it doesn't. Hence the reason for ever increasing volatility.
The problem is that the Federal Reserve consistently favors creditor, Wall Street, and employer interests over worker and borrower interests. Without some viable avenue to address these concerns aside from "suck it up, people are too stupid to know what is good for them", the Fed's legitimacy will not survive. Judicial independence is a much stronger norm than anything the Fed has, but that has not held up against a loss of legitimacy. What is going to bail out the Fed this time?
Everyone can criticize the Fed, except the WH ????
Next, you're going to tell me the Fed isn't political....
The Fed sure looked political when they cut rates in the Fall, last year,
right before the election...
Also, the 2 year note is 50bps below FF rate....doesn't that show the Fed is
behind the curve and should be lowering the FF rate ??
I think its too often forgotten by most economists that the interest payments manly due to the rate hikes from the fed were a huge part of the deficit spending that helped to support the economy. Cutting rates might provide a relief rally to stocks but cutting rates alone won't prevent a recession and especially when this administration is planning austerity measures and tax cuts for the rich as well.
So much of this argument of central bank independence is based on belief and faith. It’s all “if this were to happen, then the result would be…” none of which is based on any real life data. You can’t know whether lowering interest rates would reduce inflation or raise inflation because you can’t test the counterfactual.
My view is that lowering interest rates would lead to lower inflation and lower economic activity because it would result in less interest payments going from the government to the non-government sector. That would ultimately reduce the fiscal pulse and lead to lower economic growth.
Further, wage demands are really a residual of labour market conditions - not so much a belief in whether inflation will be higher or lower in 10 years time, or whether short term rates are being decided by an elected or unelected government official.
Mosler would certainly agree with you about the effect of the interest income channel, especially with so much $USD debt outstanding
Yeah interest on the debt is now around 3% of GDP or something
Thanks for the insightful commentary, Claudia.
Care to comment on what is causing foreign flight from US treasuries?
With the King threatening to default, who could blame them?
the indiscriminate and unintelligent nature of Trump and his adminstrations comments on the Fed are mind boggling, we really have an arsonist-in-chief in the WH.
Fantastic read thanks for putting this together. I generally view Central Banking as a negative - but I found the point on central banking independence and the public’s trust of said institution compelling. Nice one!
Totally agree with this — if the Fed caves to political pressure, it screws up the whole system. Inflation would get worse, not better. Independence isn’t perfect, but without it, things would spiral fast.
Isn't the kind of President like Donald Trump the very reason why it's preached that central bank should be 'independent'?
Try to imagine if Trump could influence monetary policy just like he's implementing his on-again-off-again-on-again Tariff flip flops. The rates will rise tomorrow but they will fall one week later and may rise again arbitrarily next month. Can an economy function under such uncertainty?
As much as we wish for accountability and transparency at central bank, we also want technocratic independence and competence at central bank. That's why central bank should be kept away from political cretins.
Claudia, what do you think of Warren Mosler’s proposal for Congress to pass a law to set the Fed’s overnight rate at zero permanently, or Randall Wray’s idea to keep it at 1% or maybe 2%? I don’t think interest rates are effective for managing inflation. Scholars argue there’s little evidence they work. Instead that’s a job for fiscal policies.
Since 2008, the Fed’s Interest on Reserve Balances (IORB) has set a floor for the funds rate, so there’s no need for traditional reserve management with changing interest rates. Treasuries remain the safest place for saving dollars, so why pay money to wealthy holders to park their wealth risk free? Set the rate and leave it. Also, expand FDIC to cover 100% of deposits and let banks compete on deposit and loan rates. If we did this, why sell bonds at all? But, that's for another discussion. :)
This would let the Fed focus on payments, financial stability, and bank regulation, while Congress manages inflation and full employment through fiscal policy. Fixing the overnight rate would also remove market uncertainty and stabilize longer-term rates, such as the 10-year notes.
This reply says it's from Claudia. Sounds like it's not. Maybe a scammer got a hold of Claudia's account?
I must confess I'm rather impressed with Powell's performance. In spite of being Republican, maybe conservative, and having been nominated by the Orange Scourge himself, he's taken a nice cautious, middle of the road approach. One could argue that he didn't pounce quickly enough to control the covid triggered inflation, but I'd say he was pretty much on target overall.
He will do well to continue ignoring the Idiot in Chief's rants, and continue following the rational path.
One could also say that the "covid triggered inflation" was primarily a consequence of supply shocks which themselves cannot be addressed by monetary policy.
Well, yes, of course that's true, but trying to shout that over the reichwing media and TrumPox blaming Biden for it was an exercise in futility.