Trump has made it clear that he believes he should have some say in the Fed’s interest rate decision-making.
“I think that in my case, I made a lot of money, I was very successful, and I think I have a better instinct than, in many cases, people that would be on the Federal Reserve or the chairman,” he said earlier this year.
Fed chair Jerome Powell has been a thorn in Trump’s side for years.Credit: AP
Powell effectively said last week that the Fed won’t take Trump’s policies into account before they are implemented and that it can evaluate their effects.
“We don’t guess, we don’t speculate and we don’t assume,” he said. Nevertheless, if Trump’s agenda were inflationary, the Fed would be forced to tighten monetary conditions and US monetary and fiscal policy would collide.
Thus, there is a very real prospect of a confrontation between Trump and the Fed during his next term as president.
Loading
At the moment, with the inflation rate subsiding towards the Fed’s target of two per cent, the Fed is in rate-cutting mode. Last week’s 25 basis point cut followed a 50 basis point cut in September. Economists expect another 25 basis points reduction next month and, before the election, were pricing in three or more rate cuts next year.
The extraordinary success of Trump and the Republicans – control of the White House, the Senate and probably the House – means Trump ought to have an unchecked ability to implement his policy agenda.
His key policies with implications for US monetary policy are his tax cuts, tariffs and immigration policies which, if implemented in the form he has outlined, would be highly inflationary.
His policies could add another $US7.75 trillion ($11.75 trillion) to US deficits and debt over the next decade – the US is already running annual deficits approaching $US2.5 trillion – and greatly increase the already massive supply of US Treasuries being issued into the bond market.
While it might take some time for the impact of those policies to show up in economic data, the pressure on the Fed to reverse course and start raising US rates again to head of a renewed burst of inflation – possibly as early as very late next year or early 2026 – would mount.
Trump and his advisers don’t want to the Fed to implement policies that would be at odds with their own agenda, hence the significant amount of time they and the various pro-Trump think tanks have devoted to devising strategies for taking control of the Fed, or at least muzzling it.
The last time he was in office Trump tried to stack the board of the Fed with his own nominees but, largely because of the nature of the nominees – a pizza company executive whose campaign for the 2012 presidential nomination was derailed by allegations of sexual misconduct, an economics commentator found in contempt of court for unpaid alimony and pursued by the Internal Revenue Service for unpaid taxes, and an economist who advocated a return to the gold standard – the attempt was unsuccessful.
This time, with only Powell and one other Fed governor’s terms as governors expiring during his presidency, there’s not much scope for board stacking, which has led to some creative thinking by Trump’s advisers.
Loading
One idea circulating recently in Republican circles would be to demote Powell’s vice chairman, Michael Barr, who has responsibility for financial regulation and who has drawn the ire of the banking system for advocating higher capital adequacy level in the wake of last year’s US regional banking crisis.
The proposal is quite Machiavellian.
At its most straightforward, it would remove (with enthusiastic support from the bank lobby) an impediment to Trump’s deregulatory agenda. The banks expect Trump and a Republican-dominated Congress to relax prudential standards as the administration pursues pro-growth policies.
That’s what happened during his last term, when the Fed vice-chair, Randal Quarles, was a Trump appointee who favoured a deregulatory approach. A report commissioned by Barr into the regional bank collapses pointed the finger at the Fed and Quarles and the deregulation laws passed by Congress as contributing factors to the crisis.
Removing Barr, whose term as vice chairman also ostensibly expires in May 2026, now that Republicans control the Senate and therefore confirmation of his successor, could enable Trump to put his own nominee into that role.
There is a very real prospect of a confrontation between Trump and the Fed during his next term as president.
It is unclear whether the White House or Congress has the legal authority to force Barr out of the vice chairmanship – they couldn’t force him off the Fed board before his term ends in 2023 – but Trump’s advisers appear to believe they can.
That’s where the proposal could become threatening to Powell and the Fed, as the plan envisages the Trump appointee to be a “shadow” chair, critiquing Fed decisions, providing their own forecasts and guidance on interest rate decisions and, because they would be Trump’s nominee when Powell’s chairmanship ends, steadily undermining Powell and gaining influence within financial markets.
Wall Street investor Scott Bessent is credited with developing the plan and is a potential Trump nominee for the vice chair’s role.
If it is legal, it is a clever idea but one, because it would undermine the Fed’s credibility as an inflation fighter, that could add to the bond market concerns about the reflationary implications of Trump’s agenda.
Loading
If the Fed is unwilling to kill off a new bout of Trump-inspired inflation, the bond market vigilantes have demonstrated in the past that they will do the job for it, forcing up US bond yields.
Indeed, there’s already been a touch of that recently, with yields rising against the trend of the Fed’s rate-cutting cycle since it became likely, and then certain, that Trump would return to the White House and, with control of Congress, be able to implement his radical economic agenda.
