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Trump, mad about Fed interest rate hikes, only has himself to blame

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trump jerome powell
President
Donald Trump and Federal Reserve Chairman Jerome
Powell

Carlos
Barria/Reuters



  • Trump believes the Fed’s rate hikes are pushing up the
    dollar and will cause bigger trade deficits.
  • He’s right. But he shouldn’t be so upset.
  • The strong dollar and the Fed’s recent actions are the
    logical result of his own policy and personnel
    choices.
  • Fortunately, the Fed will likely ignore Trump.

President Donald Trump has broken another Washington norm: While
recent presidents have tended to avoid commenting on monetary
policy, Trump is out there saying the Fed is raising interest rates too
high, too fast
.

But unlike some of the norms Trump has broken, this one isn’t
that old. The informal policy of presidents and their staffers
not commenting on monetary policy only goes back about 25 years.

“It was a conscious choice at the beginning of the Clinton
administration,” says Jason Furman, who served as a White House
economic official under Bill Clinton and Barack Obama. Furman
says Clinton officials thought George H.W. Bush — who complained
in 1992 that the Fed had set rates too high — learned the hard
way that publicly objecting to Fed policy may not work out like
you hope.

“There was a perception that that may have led the Fed to prove
their independence by raising rates more than they otherwise
would have, or by not cutting them,” Furman says.

Beyond that, the Clinton officials thought the perception of
central bank independence was good for the economy in the long
run, as it helps the Fed commit more credibly to price stability.

During the 1990s, this approach to the Fed, in combination with
fiscal austerity, allowed long-term interest rates to fall,
encouraging investment and economic growth. The Bush and Obama
economic teams felt the hands-off approach worked well and they
continued it.

So, what’s going to happen now that Trump has openly said the Fed
shouldn’t hike rates so much?

Trump is right about the link between interest rates and
the trade deficit

Usually, when presidents complain about interest rate hikes,
they’re concerned the Federal Reserve will cool off the economy
and thereby hurt their election prospects. This was Richard
Nixon’s concern in 1972 when he successfully got the Fed to
loosen its stance, and it was Bush’s when he failed to do so in
1992.

Trump seems to have a different core concern: As he has tweeted,
he believes rate hikes will strengthen the dollar and thereby
cause the trade deficit to raise, offsetting his efforts to bring
it down.

Trump’s not wrong about that.

The link is “textbook economics,” per Furman: Higher rates make
investors inclined to buy US treasury bonds and sell other
countries’ debt, pushing the dollar higher. A higher dollar makes
it cheaper for Americans to buy imported goods and more expensive
for foreigners to buy our goods, and as a result the trade
deficit rises.

There are some caveats.

Tony Fratto, a White House economic official under George W.
Bush, expects a significant lag. It takes time to move your
factory to Mexico — you can’t move tomorrow because exchange
rates moved today.

Furman noted some feedback effects could push the opposite way on
the trade deficit (for example if higher rates discourage
consumption by American consumers) but he says the president is
still right about the overall sign: higher rates, higher trade
deficit.

So, Trump is right that higher interest rates are one of several
current economic factors that are likely to push our trade
deficit up. But he only has himself to blame for the creation of
that situation.

Trump has pursued a strong-dollar, trade-deficit policy
whether he understands that or not



jerome powell
Federal
Reserve Board Chairman Jerome Powell prepares to testify before a
Senate Banking Housing and Urban Affairs Committee
hearing.

Yuri
Gripas/Reuters



What has Trump done that tends to push up the trade deficit?
Jared Bernstein, who was former Vice President Joe Biden’s top
economic adviser,
has a useful list
.

For one thing, he signed a large, deficit-financed tax cut. This
tends to strengthen the dollar in two ways. One, by stimulating
the economy, it pushes up our growth in the short run compared to
our trading partners. A relatively stronger economy means a
relatively stronger dollar.

Two, by cutting corporate tax rates, the new tax law encourages
foreign investment in the United States. Foreign investors are
encouraged to send their capital here since they won’t have to
pay as much tax. But when foreign investors send their money to
the US to invest, that cash has to go somewhere. Americans are
likely to turn around and spend the money on foreign consumption
goods.

Trump has also started trade wars. He intends these to reduce our
trade deficit. But their immediate effect has been to push down
foreign currencies, such as the Chinese Yuan, against our own.
This makes it more expensive for the Chinese to buy our goods,
and partly offsets his new tariffs that are supposed to make it
more expensive for Americans to buy theirs.

Finally, Trump has put the Fed in a position where it is sure to
feel pressure to hike rates. Fiscal expansion at the top of the
economic cycle may cause the economy to overheat, causing
inflation or investment bubbles. The Fed will tend to respond to
that by raising rates.

Trump has not appointed Federal Reserve governors who
share his views, whatever they are

This isn’t the first policy area where Trump has complained about
policies pursued by his own appointees. But it bears repeating:
The main author of the policy Trump has complained about this
week is Jerome Powell, Trump’s own choice to serve as chairman of
the Federal Reserve Board.

But in fairness to Trump, he had a limited option set here.

There are two broad categories of Fed nominees who were available
to him: One is thinkers like Powell, who sit well within the
consensus that has governed US monetary policy for the last 40
years. This consensus seeks to balance unemployment against
inflation to serve the Fed’s dual mandate, and it calls for
modestly raising interest rates now — among other reasons, so the
Fed will have room to cut rates again in the next recession.

The other category is thinkers more hawkish than Powell, who
would likely to be even more inclined to raise rates, because
they worry more about inflation. Trump has named one such person
to the Fed board — Marvin Goodfriend — and if Goodfriend gets his
way on policy, Trump will likely be even less happy than he is
now.

Who else could Trump name to the Fed? Furman suggested he could
pick thinkers from the left, like Bernstein or Dean Baker, who
have generally favored a more dovish monetary policy. But their
views on the Fed’s other main responsibility — bank regulation —
would be anathema to Trump and Republicans.

Besides, Bernstein doesn’t share Trump’s objection to the rate
hikes.

“I think their slow rate-hike campaign is reasonable,” he told
me, though he said he might encourage them to back off if the
stronger dollar causes inflation to fall.

So, if Bernstein’s out, who could Trump name that would do what
he wants on rates?

He could pick some cronies with no guiding economic principles
besides fealty to Trump. But he’d have trouble getting those
sorts of people confirmed. Democratic senators would oppose them
on the grounds of being unqualified cronies. And many
Republicans, who don’t share Trump’s monetary policy views, would
object out of concern they would be too dovish.

Trump may get in his own way by complaining about the
Fed


jerome powell trumpPablo
Martinez Monsivais/AP

Trump is used to using his loud voice in the media to push
Washington officials around. This has worked quite well with
Republicans in Congress.

But will it work with the Fed?

The Fed is a strongly independent institution, and not just by
tradition. Powell’s term as chairman doesn’t end until 2022; Lael
Brainard, appointed to the Fed board by Obama, sits until 2026.
The regional Fed bank presidents who sit on the Fed’s
rate-setting Open Market Committee aren’t appointed by the
president at all.

So, Fed governors have reason to take the long view, and to be
more concerned about maintaining their credibility with market
participants than pleasing the president. After all, they’re
likely to outlast him in office. And they know, despite his
rhetoric, his pending nominees to sit on the board aren’t likely
to push his interest rate agenda once confirmed.

There is also the lesson Furman highlighted from George H.W.
Bush: A president who tries to push the Fed around may find the
Fed does the opposite of what he wants, in order to prove to
market participants that it is still independent.

Fratto is more concerned about the public perception of Fed
independence than about whether Trump’s remarks would actually
cause the Fed to change its policy in either direction.

“I don’t think so,” he said, when I asked if the Fed might hike
more than it otherwise intended, in order to show independence.
“But I think other people will think so.”

The ‘problem’ Trump is complaining about isn’t
real

An irony of Trump’s complaint about interest rates, the dollar
and trade deficits is that some of the economic phenomena he is
implicitly complaining about are good news.

If the dollar is strong because the US is an attractive
destination for foreign investment, isn’t that a good thing —
indeed, a fact Trump can take credit for, since he just signed a
corporate tax cut?

If the economy is strong enough that the Fed has room to
normalize interest rates in preparation for a future recession,
isn’t that a good thing too?

More broadly, if the trade deficit is up because Americans are
relatively flush and can afford to buy foreign products,
shouldn’t he brag instead of complaining? Why would he want the
Fed to try to undo that situation?

Monetary policy is one area where Trump has, until this week,
kept his hands off and allowed his high-qualified, consensus
nominees to make good policy choices. This choice has been to his
benefit — as Matt Yglesias has noted, getting your macroeconomic
policy right can make up for a lot of microeconomic sins like
pointless trade wars.

If Trump got the Fed to switch its focus to reducing the trade
deficit and/or serving Trump’s policy whims, that would be bad
both for our economy and for Trump’s political fortunes.
Fortunately for all of us, they’re not likely to go along.

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