President Donald Trump is not happy with Federal Reserve Chair Jerome Powell. Airing his grievances over the weekend on Truth Social, the president complained that interest rates have not been lowered recently and accused the Fed, led by Powell, of lowering interest rates before the election “in order to help” Kamala Harris “get elected.”
In the financial community, it’s kind of an open secret that the Fed was politically motivated to ease monetary policy. Christopher Waller, a member of the Federal Reserve Board of Governors, laid the groundwork for the cuts in a speech in December 2023, and all that was needed was a short run of soft economic data to pull the trigger on the rate cuts, which began with a half percentage point cut followed by two quarter-point cuts. Lowering the interest rate had the desired effect—fluffing up the stock market before the election—but the thumb on the scale was not enough to tip the election in Harris’ favor.
Politics often influences monetary policy decisions, despite the Fed’s nominal independence. It should also be noted that the stock market is experiencing volatility comparable to what happened during the pandemic, when interest rates were cut to zero and the Fed engaged in quantitative easing. During this crisis, there is so far no hint of easier monetary policy, though it is needed.
When it comes to monetary policy issues, Trump is a doppelganger of Turkey’s president, Recep Tayyip Erdoğan, who has repeatedly lowered rates in the face of rising inflation, leading to a currency crisis, devaluing the lira, and potentially triggering hyperinflation. If Trump were left in charge of monetary policy, we would eventually end up like Turkey. Worryingly, some prominent intellectuals actually want Trump in charge of monetary policy.
If we are to have a central bank, it should be independent. Libertarians rightly argue that we should not have a central bank, that 19 unelected bureaucrats with all their political motivations should not be in charge of the most important price in the economy—the risk-free rate of interest. “End the Fed!” has been libertarians’ rallying cry at least since Ron Paul’s 2009 book of the same name.
I prefer the saying “privatize monetary policy.” The markets are more than capable of setting interest rates on their own. They often do, without help from bureaucrats. There is also a lot of evidence that the Fed officials are simply following the cues of the short-term interest rate markets.
The interest rate that the Fed sets is called the Federal Funds Rate. This is the interest rate at which banks lend to each other on an overnight basis, mostly for capital requirements or balance sheet reasons. The Fed sets the interest rate target, which these days is a range of one-quarter of a percent, and then adjusts it through open market operations, either buying or selling to keep the actual Fed Funds Rate in line with the target rate. All other interest rates, such as longer-term interest rates, and commercial interest rates such as the prime rate, are benchmarked off Fed funds. The Fed doesn’t determine 10-year or 30-year interest rates (yet)—those are left to the bond market.
It has been argued that the biggest financial crisis since the Great Depression was a result of leaving interest rates too low for too long after the dot-com bust, and then-Fed Chair Alan Greenspan was considered to be a good central banker. Zero percent interest rates throughout the 2010s led to asset bubbles and a huge misallocation of capital. Greenspan’s predecessor, Paul Volcker, gets credit for stopping the great inflation by raising interest rates, although it resulted in a 6 percent drop in gross domestic product. When central bankers make errors, it is usually because they leave interest rates too low, sometimes due to strong political pressures.
Market-determined interest rates would be messy but good. There would be volatility in short-term rates for sure. But who could do the job better? Traders would do a better job of determining monetary policy than a group of politicians with Ph.D.s in economics. A president shouldn’t be in charge of interest rates. Profit-seeking economic actors should guide interest rates. At least if they are wrong, they are severely punished by losing money. There are no such consequences for the Fed officials.
