When the president announced the appointment of Jerome “Jay” Powell as the new chairman of the Federal Reserve, the prestige newspapers responded with a yawn. They had already reported Powell’s name several days earlier, when the White House leakers fed it to them. This leak gimmick enables Trump to test-market his choice (and change it if reactions are negative), while favorite reporters get to pose as insiders.
Powell’s nomination was thus treated as old news. Except the media missed the real story. Choosing a successor to replace Janet Yellen as chair of the central bank was, arguably, the most important appointment Trump will make during his first term. If he has chosen badly and the new Fed chairman crashes the economy with punishing interest rates, there will be no second term for Donald Trump.
Trump evidently understood this risk. He met several times with Yellen and lavishly praised her strong stewardship. Monetary policy is one area of government that Trump intimately understands—his gold-plated fortune requires it. He is a builder but also a borrower. The Federal Reserve has life-and-death powers over builders and borrowers, especially if it decides to tighten credit by driving up interest rates. When that happens, a smart deal can suddenly look like a loser.
So builders and bankers both have a peculiar codependency on the Fed. Builders yearn for lower interest rates to sweeten their deals. Bankers lobby the Fed for higher interest rates, ostensibly to insure a sound currency but really to insure their own profitability.
Before Trump announced his appointment of Powell, I consulted an expert, Paul McCulley, who for many years was the brilliant monetary forecaster at PIMCO, the giant investment firm, where he was managing director. McCulley achieved global celebrity a decade ago for predicting the financial crash, when most Fed watchers—including the Federal Reserve’s own leaders—didn’t see it coming. McCullley also understands the politics of monetary decisions (now retired, he teaches at Cornell Law School). Professor McCulley confessed that he had voted for Hillary Clinton, even though he expected Trump would probably choose a more aggressively pro-growth leader for the central bank—someone as smart as Janet Yellen.
“Logically, Trump is an easy-money man,” McCulley surmised. “What I do know is Trump has no hard-wired economic philosophy. Trump likes to build things with other people’s money and put his name on them. Building with cheap leverage—that is his de facto ideology.”
What would McCulley tell Trump if he asked for advice? “If Trump wants to be reelected in 2020, he should reappoint Janet Yellen,” McCulley said. “Because she won’t be mean and nasty toward accommodating fiscal policy.” In other words, Trump’s outlook and life experience, including the occasional bankruptcy, suggest a risk-taking, borrow-and-build boomer. “Ironically,” McCulley said, “this is very Keynesian and appropriate right now.”
When Trump made his choice, it was not Yellen, but maybe the next best thing. Jay Powell is a former investment banker who already sits on the Federal Reserve Board as one of its seven governors. He is an establishment Republican and orthodox conservative, a Treasury veteran from the first Bush administration and a former Carlyle Group investor who knows financial markets. He was trained as a lawyer, not an economist.
An important point about Jay Powell is that in his five years as a Fed governor he served under both Janet Yellen and her predecessor, Ben Bernanke. Hard-right conservatives loathe Yellen especially (she is the first woman to be in charge of that very masculine institution). Trump evidently wished to avoid the explosive political reaction that appointing Yellen to a second term was sure to provoke—the reactionary anger of Wall Street bankers and right-wing “hard money” economists preaching doom and gloom.
Elevating Powell to the chairmanship means Trump gets “Yellen without Yellen,” as one Bloomberg commentator put it. Sophisticated Fed watchers understand that “Yellen without Yellen” means her unorthodox policy strategy will continue—the extraordinary departure that enraged Rupert Murdoch’s Wall Street Journal and other advocates of the pain-and-suffering capitalism taught by the late Milton Friedman.
Never mind. A crucial distinction for Governor Powell is that he never dissented from any of Janet Yellen’s policy recommendations. If he continues the same policy direction, he will no doubt be attacked on the same points that enraged right-wingers about Yellen and Bernanke. Some senators may even vote against his confirmation.
Yellen was an easy target for the reactionaries. In addition to being a woman, she is a monetary economist of moderate Keynesian persuasion. So was her predecessor Bernanke, though neither of them dined out on that label.
Yet, despite many righteous critics, the Bernanke-Yellen regime engineered an extremely irregular turn in monetary policy after the crash of 2008, one that gradually nursed the US economy back to its fragile recovery. They accomplished this by violating every sacred rule the late Milton Friedman had taught right-wing monetarists (rules that failed during the brutal recession of 1981–82).
The Bernanke-Yellen strategy for saving the US economy came down to a shockingly simple proposition: throw money at it. Not millions or billions of dollars, but trillions. Yes, trillions of dollars.
Bernanke-Yellen didn’t borrow this money from anyone—they created it. That’s what a central bank has the power to do. During their tenures, the Fed under Bernanke and Yellen created more than $4 trillion, which was used to purchase market-traded bonds—both Treasury bonds and the mortgage-backed securities issued by federal agencies Fannie Mae and Freddie Mac.
It was a way of keeping the economy afloat with interest rates near zero. It succeeded, in the most basic terms. At least, the US economy did not slide into another Great Depression, as it had after the stock-market crash of 1929. The Yellen Fed has begun the delicate process of withdrawing that Fed-generated money supply—selling its huge holdings in bonds, little by little, back into markets and to private investors, then extinguishing the money.
But no one in authority dares to declare victory. The right-wing economists (some of whom were seeking to replace Yellen) are still demanding that the Fed tighten the money supply faster and push up interest rates and call it “normal.” That is a recipe for full catastrophe. One assumes neither Fed chairman-designate Powell nor President Trump would be so foolish as to comply with such a backward decision.
The distortions of crash and recovery have actually worsened the maldistribution of incomes—witness the super-inflated stock market, driven higher by the “easy money” policy. Now Republican top-down tax cutting will distort the imbalances even further.
The essential economic problem today is the shortage of demand: People do not have enough money to buy stuff. Businesses do not produce stuff when they know there are no buyers. The weakness of consumers has developed over decades of lost jobs and stagnant wages and political neglect. Government could solve that problem by force-feeding public works and financing other projects that generate jobs and incomes. Trying to solve the national economy’s weakness by cutting taxes from the top down is lunacy.
The Federal Reserve cannot solve this by cutting interest rates or pumping more liquidity into the banking system. The Fed has discreetly encouraged the elected government to carry out fiscal stimulus—by building roads, ships, and high-speed rail, building whatever the public needs. Government can finance the projects that will create jobs and tighten labor markets enough to generate rising wages. The Fed could arrange financing in partnership with the Congress and president.
This is all old stuff—check the history of the New Deal. The country is on the edge of an abyss that neither political party seems to understand or is willing to face. Have Americans lost their nerve? Their imagination? Are there no leaders willing to risk their reputation? Where is our loudmouth president on these questions?