Trump vs Powell: Who’s the Numbskull?

Trump vs Powell: Who’s the Numbskull?

If anything, Powell has demonstrated the pitfalls of discretionary monetary policy. Way back in the 1950s until his death in 2006, the legendary Milton Friedman argued that discretionary monetary policy was inherently destabilizing. That is the constant manipulation of policy tools by the central bank created uncertainly in the marketplace and resulted in fits and starts in investment and consumer behavior. Friedman postulated using the Quantity Theory of Money that if the central bank grew the money supply at a rate equal to the long term real rate of growth in the economy, that we would have steady growth without inflation. If the rate of growth in money were above that of the economy then there would be inflation. If it were below that we would have slower growth and rising unemployment. This was called monetarism and was in direct contrast to Keynesianism where the central bank was to manipulate interest rates to change economic activity rather than concentrate on monetary aggregates.

Needless to say, central bankers choose the fiddling around strategy rather than that suggested by Freidman. Manipulating stuff is what they do. Central bankers love to fiddle. They love to increase interest rates or decrease them. They love to be the dominant forces in the economy. It gives them god-like status. Consider that Donald Trump who loves to fling insults and belittle people is particularly incensed with Fed chair Jerome (Jay) Powell. He just called him a “numbskull” for his refusal to bend to Trump’s badgering about lowering rates (namely the Fed funds rate). Trump points to inflation staying around the Fed’s target of 2 percent (which Friedman would argue is too high) and an unemployment rate of 4.2% (again Friedman would contend is too high). 

Trump wants lower interest rates to cover for the possibility that his tariffs will lower economic growth. He keeps yelling that there is no inflation so lower rates. The Fed is less sanguine and is taking a wait and see attitude. If it lowers rates and the impact of the tariffs is inflationary, then it would have added fuel to the fire and then will be blamed for not preventing the inflation. Recall that Powell has said “Inflation is likely to go up as tariffs find their way and some part of those tariffs come to be paid by the public.” Trump points to the European Central bank’s lowering rates and wonders why the Fed doesn’t do so. The answer is rather simple. The Europeans are countering the negative impact that Trump’s tariffs will have on their economies which should be the opposite of the impact that the tariffs will have on the US economy. 

Lest we forget, Powell was given high praise during Trump’s first year. The Fed accommodated the Trump tax cuts. Employment grew. Real wages grew. The market recovered from its losses of the previous decade and Trump took all the credit. Then came Covid and the fear of a severe recession or worse. The Fed cut its Fed funds rate to zero. It bought unprecedented amounts of government securities and inflated the size of its balance sheet. It provided funds to other nations’ central banks to ward off a world wide liquidity crisis. It even loaned funds directly to state and local governments. Again most gave Powell high praise for averting economic disaster. But there were those who argued that letting the economy crash would result in self-healing, a cleansing of balance sheets and a speedier recovery. Others argued otherwise and credited the Fed from saving the economy from a depression. 

Then came the prolonged inflation resulting from the Fed’s accommodation of Biden’s profligate ways. The inflation fueled by the Fed’s actions during Covid, exploded with the Fed’s accommodation of the $2 trillion American Rescue Act, the $1 trillion Infrastructure and Jobs Act, the $300 billion CHIPS Act, and the $900 billion so-called Inflation Reduction Act. That inflation will tarnish Powell’s legacy.

Now why does Trump want Powell to “lower” rates? Initially he said it was to stimulate growth because inflation was low. However, in his speech when he called Powell a “numbskull” Trump said “If we cut our interest by 1 point, for years we save $300 billion. If we cut it by 2 points we save … $600 billion a year, $600 billion because of one numbskull that sits here, ‘I don’t see enough reason to cut the rates’ no.” Trump is wrong. The Fed’s cut of the Fed funds rate will not lower the interest rates on Treasury bonds. Instead of saying that the Fed cut is necessary to stimulate the economy, the president is mistakenly conflating the long term Treasury bond market with the short term Treasury bill market. Now he saying that the Fed should cut interest rates to lower the government’s cost of financing the growing national debt? Pardon me but this is a numbskull comment.

Of course, all this could be avoided if the Fed abandoned discretionary policy. But that will never happen. But Trump should realize that calling Powell names will likely make him – and the Fed’s Open Market Committee – dig in their heels. A recent Supreme Court decision appears to imply that Trump cannot fire Powell and the Fed’s governors. Also, the reserve bank presidents who serve on the Open Market Committee could never be fired by the president since they are not nominated by the president nor have to go through senate confirmation. So a modest suggestion would be for Trump to get off social media, harness his insults and start quietly negotiating with the Fed and its chairman about the conduct of monetary policy. But that is not his tendency. Yet what he is doing is solidifying in the market’s mind that the central bank should be independent of the executive.

Mind you, I am not excusing Powell and the Fed for what some see as missteps. Powell like then Treasury secretary Yellen had testified before congress that the Biden inflation was “temporary and would likely wane.” They were wrong. But at the time they thought they were right. The inflation was the product of policies taken first because of the pandemic and then Biden’s fiscal blowout. Taking his cue from the Bernanke era at the Fed, Powell’s Fed reacted during the pandemic by dramatically increasing the Fed’s balance sheet. It went from holding about $500 billion in securities to over $9 trillion. It has since cut that number in half but has stopped reducing it and now looks like it may start increasing it again. The Fed’s buying (mostly) government securities injects money into the economy and typically is inflationary. Thus, the increase in the Fed’s balance sheet allowed new money to finance Joe Biden’s spending splurge. Again it is easy to criticize this as rubber-stamping Biden’s policies. But from the Fed’s perspective, this injection of funds prevented the economy from collapsing into a depression. Again it is easy to criticize when hindsight is 50-50.

Yet I think that one thing has not been considered – at least not publicly.  Is the impact of the tariffs temporary? That is, let us suppose that Trump’s tariffs raise prices by 10 percent. The question is whether that 10 percent is a one time shock to the system. That is if prices rise by 10 percent will they then increase by ten percent per annum or just once? Treasury Secretary Bessent has said “Tariffs are a one-time price adjustment,” Projections are that the initial impact will be to raise the cost to US households by $1,200 which then lowers real income. Most projections (outside of the White House) show the tariffs causing inflation to rise above 3%. The question is will it stay there. So do tariffs lead to higher prices and sustained inflation or are tariffs only a short-term spike in inflation due to immediate cost adjustments and do not result in long-term, sustained inflation? As Chairman Powell has stated “It’s really hard to know how this is going to work out.” 

So Trump versus Powell. Who’s the numbskull? You decide.