Earlier this month, I announced changes regarding Chairman Jerome Powell. I hinted at a shift in the Federal Reserve’s approach to easing policies during the Federal Open Market Committee meeting in September. Following this, the US stock and bond markets began to bounce back in response.
However, President Trump escalated his criticism of the Federal Reserve by stating he would dismiss Governor Lisa Cook, who he accused of committing fraud related to his mortgage application. This marks a historical moment as it’s the first time a Fed governor has been dismissed.
The Wall Street Journal’s editorial described this action as a “Calculated putsch,” suggesting that the crackdown on mortgage fraud seems aimed at Trump’s political rivals. The editors contended that such criminal referrals pose a direct risk to other Federal Reserve governors.
Meanwhile, the Financial Times pointed out that the expectation that the Fed determines interest rates independently has been severely shaken by Trump’s attempts to exert control.
While many previous presidents have pressured Fed Chairpersons to implement looser monetary policies, none have sought outright control of the Federal Reserve. CNBC reported that Trump mentioned at a cabinet meeting that a majority of Fed governors would soon be his appointments.
Bill Dudley, the former president of the New York Federal Reserve, indicated that if Cook is removed, Trump might appoint up to four new governors, complicating the appointment of regional Federal Reserve Bank presidents, who also have voting roles on monetary policy.
There has been a considerable discussion regarding the potential ramifications if the Federal Reserve becomes politicized. A historical reference often cited is President Richard Nixon’s attempts to influence the Fed, as he pressured it to avoid raising interest rates during the inflation crisis of the early 1970s, which led to negative outcomes in the markets.
Despite the previous warnings, surprisingly, the US bond market hasn’t seemed to react strongly, leaving many observers puzzled.
One explanation might be that investors are confident the Supreme Court will block Trump’s efforts to control the Fed. A ruling related to the president’s ability to remove certain board members emphasized the need to preserve the Fed’s independence.
This could be why Trump has moderated his rhetoric surrounding Powell, especially in light of criticisms concerning the remodeling of the Federal Reserve’s building.
Alternatively, it could be that bond investors are aware that two of Trump’s appointees are proponents of Fed independence. Both Michelle Bowman and Christopher Waller dissented during the July Federal Open Market Committee meeting, arguing against cuts in interest rates.
Powell seemed to echo this sentiment recently during the Jackson Hole Conference.
Trump’s decision to nominate Stephen Milan could indeed test the independence of the Fed as he seeks to fill a temporary vacancy.
In early 2024, Milan co-authored a proposal advocating for stringent Fed reforms which included making all senior officials susceptible to termination by the White House, aiming to enhance accountability to the democratic process.
Another perspective suggests that the Fed may need to cut interest rates soon, especially as a cooling labor market could hint at rising unemployment. Recent job reports indicated the bond market is anticipating a significant reduction in federal funding rates this year, with additional cuts likely next year.
However, Treasury Secretary Scott Bescent noted that the Fed could opt for a half-percent rate cut soon due to weak employment figures and mild inflation, stating that the current rate is too low.
My conclusion is that the Fed might tread carefully until Trump announces a successor to Powell. If the new appointee gains investors’ confidence, it could stabilize the markets for a spell.
On the other hand, if the perception is that the Fed has become politicized, we might witness a steeper yield curve and increased pressure on the dollar.
Ultimately, the question remains whether Bescent will intervene again, and if so, it might compel Trump to reconsider his stance on lowering interest rates.
Dr. Nicholas Salgen is an economic consultant for investment advisors at Fort Washington and is associated with the University of Virginia’s Darden School of Business. He authored three books, including “Investing in the Trump Era: How Economic Policy Will Affect Financial Markets.”
