Is the Fed’s Independence on the Line?

What You Don’t Know about the Federal Reserve

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Wharton's Peter Conti-Brown and MSU's Lisa D. Cook discuss the risks posed by the most recent nominees to the Federal Reserve Board.

President Trump’s choice of Herman Cain, a businessman, and economist Stephen Moore as his nominees for the Federal Reserve Board is raising questions about White House’s attempts to influence central bank policy.

Cain is a business executive who is best known for his aborted bid for the Republican presidential nomination in the 2012 election and as the former CEO of Italian fast-casual restaurant chain Godfather’s Pizza. He also served on the Federal Reserve Bank of Kansas City in alternating roles as chairman and deputy chairman between 1995 and 1996. Moore is an economic commentator who was an adviser to the 2016 Trump campaign and the 2012 Herman Cain campaign. He has also worked as chief economist at The Heritage Foundation, a conservative think tank, and on the editorial board of The Wall Street Journal.

“There is a constitutional duty the president has that should be respected, and that is … a very important role in shaping policy, including that at the central bank,” said Peter Conti-Brown, Wharton professor of legal studies and business ethics. The president can nominate candidates to the Board of Governors, which are confirmed by the Senate. Thus far, Trump has made “stellar appointments” to the Federal Reserve, he said, noting that four of his six nominations have been approved.

However, the Cain and Moore nominations are “very different,” Conti-Brown continued. “President Trump is now abandoning what has been a bipartisan consensus stretching back at least 40 years that says although Democrats and Republicans will appoint different kinds of central bankers, they come with a baseline of competence and experience where they’re not going to prize partisan loyalty over the work of central banking. Stephen Moore and Herman Cain do not fit that historical consensus.” The two nominations represent “a big departure even for President Trump,” he added. “The Senate Republicans and the Senate Democrats need to rally together and vet these candidates and reject them.”

If Cain and Moore were to become Fed governors, “they could poison the conversation,” said Lisa D. Cook, associate professor of economics and international relations at Michigan State University. She noted that Moore has called for the elimination of the Commerce Department as well as the Bureau of Labor Statistics, which is problematic because “for a sophisticated, multitrillion-dollar and very advanced economy like ours, we need all the information we can get.”

Conti-Brown and Cook discussed how the nominations could affect the Fed’s independence on the Knowledge@Wharton radio show on SiriusXM. (Listen to the podcast at the top of this page.)

Dire Scenarios

“I’m pretty sure these nominees, if they get officially nominated, would do what [Trump] wants on interest rates — particularly Moore, who has said as much,” noted David Zaring, Wharton professor of legal studies and business ethics, in a separate interview. “Cain has in the past advocated a return to the gold standard, so he might not be as enthusiastic about low interest rates as is the president.”

“I’m pretty sure these nominees, if they get officially nominated, would do what [Trump] wants on interest rates.” –David Zaring

Wharton finance professor Krista Schwarz is worried about “repeated public interference” in the Fed’s setting of monetary policy, which she said is unprecedented. “The current nominees threaten the nonpartisan nature of the Federal Reserve.”

The seven members of the Board of Governors of the Federal Reserve System are nominated by the president and confirmed by the Senate. They sit on the 12-member Federal Open Market Committee (FOMC) along with five other members, who are presidents of Federal Reserve Banks.

Conti-Brown pointed to “a litmus test” in 2021, when current Fed chair Jerome Powell’s term ends, after which he could be nominated for a second term or replaced. He said that Trump or another president could push to have “a loyalist” in that role. “This idea of rigor in the personnel that are appointed at the Fed is the heart of Fed independence,” he said. “It’s very fragile. It’s very important. For the Republicans, this is the line in the sand they need to draw.”

Conti-Brown appreciated that Cain had been a CEO and served at the Kansas City Fed as well. However, what is “disqualifying” about Cain is that the central bank ideology differs from a partisan ideology, he said. Moore lacks Cain’s experience, and “he’s unequivocally not a good nominee,” he added. “Congress designed the Fed so that partisans can’t use them for electoral ends. And that’s the thing we have to preserve.”

Risks of Doubting Data

When she was a staff economist in the Obama Administration’s Council of Economic Advisers, Cook said she saw Moore, Trump and Cain questioning the Bureau of Labor Statistics and its unemployment data. “I was incensed,” she said. The BLS has “professional, nonpartisan, and very hardworking economists who … are free from political persuasion,” she said. “You can imagine [what could happen] if they’re not protected. A fundamental disbelief in this independent agency producing independent data … mars how the data will be interpreted.”

The risks involved in suspecting the quality of the data while making decisions at the Fed could also have consequences globally. “The Fed’s influence in the world is profound,” said Conti-Brown.

“The Senate Republicans and the Senate Democrats need to rally together and vet these candidates, and reject [Cain and Moore].” –Peter Conti-Brown

Cook agreed. “In terms of fundamental decision making and using the kind of data that would, say, stem the flow of a financial crisis, that would be bad not just for the U.S. but for the rest of the world.”

The Case for Independence

Schwarz explained why she believes the Fed needs to be run in a nonpartisan fashion. “The credibility of the Federal Reserve, which stems from its apolitical policy approach, strengthens the transmission mechanism of monetary policy and thus its effectiveness,” she said. “Credibility takes a long time to build, but can be quickly destroyed. It is not in either political party’s interest to put this in jeopardy.”

To be sure, the Fed has routinely faced political pressures, said Conti-Brown, who is also a financial historian and author of the 2016 book The Power and Independence of the Federal Reserve. “The Fed is a political institution, but it’s not a partisan institution, and it is indeed influenced by a political process,” he added.

However, previous administration insiders who went on to take up top jobs at the Fed, such as Ben Bernanke (Fed chair, 2006-2014) and Alan Blinder (Fed vice chair, 1994-1996) were experts on economic issues who also shielded their roles at the Fed from partisan politics, Conti-Brown noted. “A baseline of competence, experience and expertise disciplined both Blinder and Bernanke to say, ‘We’re not going to put this midterm or presidential election at the forefront of our monetary policy.’

“A partisan is only asking the question: ‘Is this good for us or bad for us in the next election?’” Conti-Brown continued. “A central banker has to ask the opposite question, which is: ‘Forget elections. Is this good or bad for America?’ Moore and Cain lack that baseline competence to be able to say, ‘the partisan noise is noise. Let’s focus on the short-, medium- and long-term economic effects of these policies for America as a whole.’”

Schwarz said no clear solution exists to insulate the central bank from partisan politics in the U.S. or elsewhere globally. “In many situations, the central bank is the only part of the government that is capable of responding quickly to crises,” she noted. “This puts them in the crosshairs of populist politicians.”

At the same time, there are “many degrees of political meddling,” Schwarz added. “Appointing two unconventional nominees to the Board is probably something that the Federal Reserve System can accommodate, even if it introduces a temporary partisan tone to the policy process. But, if Trump were then to attempt to fire Powell and replace him with one of his nominees, that would be much worse, and could have a lasting impact on the market’s confidence in the institution.”

Not All the President’s Men

Trump has often stirred controversy in his comments about Fed policy. For example, just last week, he urged the Fed to lower interest rates. “I think they really slowed us down. There’s no inflation. I would say, in terms of quantitative tightening, it should actually now be quantitative easing.”

According to Conti-Brown, Trump’s utterances are hurting the Fed, whether or not it heeds him. “President Trump should never have been making these kinds of noises and criticisms because … the narrative is now about the Fed reacting to the president, and that in itself undermines the Fed’s credibility,” he added. “When you heap political loyalists on top of that pile, then the narrative starts to get shaped in that way because for at least two members of the 12 members voting on the Federal Open Market Committee, that is the lens through which they see the world.”

The ideology of a central banker is one of empiricism and uncertainty, Conti-Brown observed. “A partisan does not truck in uncertainty. The world is always clear — ‘We’re always right, our opponents are always wrong,’ and they don’t deal with nuance.”

Cook noted that notwithstanding Trump’s push for lower interest rates, Powell and others on the FOMC are asking “serious intellectual and scholarly questions” on interpreting economic data before making their decisions. “I don’t think that they are bowing to the pressure of the president. Jay Powell has been somewhat defiant, and that’s a good thing.”

“The current nominees threaten the nonpartisan nature of the Federal Reserve.” –Krista Schwarz

Protecting a Tradition

The longstanding tradition that has preserved Fed independence would be at risk if these two candidates were nominated and then appointed, said Cook. “This could threaten the [Federal Reserve’s] dual mandate of maximizing employment and growth.”

According to Zaring, Trump has “broken with a number of traditions that help to guarantee” central bank independence. “He’s hectored the Fed, had board members to dinner at the White House, and now mused about making these pretty political appointments. I’m not worried yet — the Fed should be able to take a little criticism, the board should absolutely talk to the White House and President Trump’s previous Fed appointments have been beyond reproach.”

What are the likely scenarios? Schwarz expects Cain and Moore to face pushback at confirmation hearings. Zaring predicted that they either will not get nominated, or if they do, they will be confirmed only by voting along party lines. Already, three Republican senators have said they won’t back Cain, and a fourth in opposition “would sink a nomination,” Bloomberg reported.

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