President Donald Trump watches on as Federal Reserve chair Jerome Powell speaks to the media. Photo / Getty Images
President Donald Trump watches on as Federal Reserve chair Jerome Powell speaks to the media. Photo / Getty Images
COMMENT:
Economists from Duke University and London Business School recently published research into a once-unthinkable — but now timely — question: how much market impact does a presidential Twitter attack on the US Federal Reserve actually have?
The answer offers reasons for hope — and fear. On the upbeat side,the tangible market impact of Donald Trump's demands for looser monetary policy have been modest so far, the research suggests; the implied yield on Fed Funds futures contracts apparently declined by an average of 0.30 basis points after each attack, producing "the cumulative effect of around negative 10 bps" so far. This is so small in the wider scheme of things that it would undoubtedly disappoint Trump in the (unlikely) event he read this research.
What is less cheering is that the fact futures prices moved at all after Trump's tweets suggests that "markets do not perceive the Federal Reserve Bank as a fully independent institution immune from political pressure", the economists argue. There is, in other words, already some implied damage.
Despite the Fed's rate cut on Wednesday, the fight between it and Trump will probably get worse, not better, in the coming year. There are two reasons for this. One obvious factor is that the White House is desperately hunting for scapegoats for the current slowdown in US growth. In public, Trump is ebullient: after it emerged this week that the economy had grown 1.9 per cent in the third quarter, the president saluted "The Greatest Economy in American History!" on Twitter.
However, there has also been a sharp fall in business investment and exports. You do not need to be a genius to spot the cause of this malaise: trade wars have injected deep uncertainty into the business outlook. This won't disappear even if the White House cuts a trade deal with China, since few executives trust that a truce will last.
Since the White House does not want to blame any slowdown on its own policies, it insists that any looming weakness reflects the fact that US borrowing costs are higher than in Europe or Japan, fuelling dollar strength. In other words, White House officials want to use rate cuts as a tool in their bigger geopolitical currency and trade war as the 2020 election looms.
The second reason the battle will probably become uglier is that Fed officials seem unlikely to play ball with Trump. That may not seem obvious from the Fed's decision this week to cut rates by 25 basis points for the third time this year.
Powell has experience dealing with aggressive bullies. Photo / AP
However, the rate cut occurred in spite of Trump's broadsides, not because of it. Fed officials genuinely believe that growth is slowing down — those pesky trade wars have offset much of the beneficial impact of the 2017 tax cuts — and they want to offset the risks.
It is striking that Fed chair Jerome Powell suggested on Wednesday he does not expect to cut rates again soon unless consumer activity declines. He does not want Fed policy be a tool in the currency and trade war. This stance reflects a mood of quiet militancy inside the central bank, where officials are determined to fight what some describe as an "existential threat" to its independence.
But it also raises another, oft-overlooked point: Powell's persona. When he was first appointed chair in February 2018, some observers doubted whether he would have the stomach for a fight. He has a genial demeanour, and sometimes weak communications style.
Moreover, Powell is not part of the central banking club of esteemed economists. He is the first Fed chair in four decades without an economics doctorate let alone a degree, having trained as a corporate lawyer. He is also a longtime Republican — which is precisely why Trump appointed him.
But that assessment overlooks the fact that Powell built his career (and wealth) in the vicious world of private equity as a Carlyle partner. Genial or not, he has more experience with aggressive bullies than any recent Fed chair. He also knows how to use the law as a shield and a weapon — specifically the 1913 Federal Reserve Act that protects his independence.
Precisely because Powell is not an economist, and a pragmatist rather than an ideologue, he listens to his central bank peers and Fed staff. This has left him as determined as they are to fight the threat to Fed independence.
If the growth keeps slowing, the stage will be set for an intensifying battle between Messrs Powell and Trump. It is still alarmingly unclear who will eventually triumph on the question of rates — and the Fed's independence. My money is still narrowly with Powell, despite that 10bp market swing.
