Trump vs Powell – and Bessent?

Trump vs Powell – and Bessent?

What do you think about Federal Reserve independence? Have you noticed that for all Trump’s gnashing of teeth, name calling, threatening and cajoling that congress has been mostly silent? Powell has his regularly scheduled hearing on monetary policy on Tuesday. Trump is applying pressure on the republicans on the committee to pressure Powell to lower rates. Trump is now emphasizing the need for lower rates to reduce the cost of financing the ever increasing Federal debt. Such is easier it seems than reducing the government’s voracious appetite for spending. Trump wants the Fed funds rate to be around one percent down from the 4.3 percent where it is today. Trump is now calling Powell “dumb” and a “Trump hater.” But Powell is certainly not dumb and its hard not be a Trump hater with all the vitriol coming from the president. However, at least one of these two will continue to show class. Speaking of class, how about this from our president directed to the other governors at the Fed “I don’t know why the Board doesn’t override this Total and Complete Moron!” Does this mean that he is now applying pressure to his other two appointees, Chris Waller and Michelle Bowman? We will see.

Of course, presidents have always applied pressure on the Fed, just not so publicly. The press often cites Richard Nixon pressuring Fed chair Arthur Burns to lower rates prior to Nixon’s reelection. Others point to Lyndon Johnson calling William McChesney Martin to his Texas ranch for “consultations.” But never to my knowledge has the spat been so out in the open and so loudly profane. But hey, that’s this president. 

What will be interesting to see is how the congress-folk react to Powell and his testimony. Will he be grilled by both the republicans and the democrats? Will they support Trump in calling for a lower fed funds rate? Again once all the cajoling had the pretense of sparking economic growth to offset the projected impact of Trump’s tariffs on the economy. Trump keeps arguing that there is little inflation so prime the pump, Fed. However, inflation is still above the Fed’s target rate of 2 percent. Again many of us think that two percent is too high a target. An inflation rate of 2 percent means that prices will double in 36 years (rule of 72). That means that nominal income would have to double in order for real income to stay the same.

Mind you, the Fed is a creature of the congress. The congress can enact new legislation regarding the Fed, its composition and its goals. Why hasn’t Trump called for new legislation? Congress would probably reject such a plea because Trump is a short timer. Do we really want a republican congress to give the president control over Fed decisions in order to give that power to the next democrat president? Or should I say the next socialist (democrat) president? Can you imagine Joe Biden dictating monetary policy? That sobering thought should be enough to let Trump keep flailing away while Powell and the Open Market Committee continue to do what they do. However, whatever move the Committee makes – and I am betting it will lower the rate in July – will be met with commentators saying that Powell finally gave in, if for no other reason to shut Trump up.

But let us suppose that the fed funds rate goes down. Will this mean, as Trump keeps telling us, that we can save billions (or as Trump tweets BILLIONS!)? Not necessarily. It depends on what happens to Treasury rates. There are three categories of Treasury issues. Lowering Fed funds typically lowers Treasury bill rates. T-bills mature in less than one year and make up only 21 percent of Treasury debt. So if Federal borrowing is $30 trillion, about $6.3 trillion will be in bills. Treasury notes mature in 1-10 years. They comprise 52 percent of the debt issuance or $15.6 trillion. Treasury bonds mature in greater than 10 years and are mostly 20 year or 30 year bonds. They make up 17 percent or $5.1 trillion, The other 10 percent are Treasury Inflation Protected securities (TIPS) of 8 percent ($2.4 trillion) and Floating Rate Notes of 2 percent ($1.5 trillion). So what happens to the interest on the debt depends on what happens to the Treasury yield curve. As I write this 3 month Treasurys are 4.29%, the two year is 3.73%, the ten year is 4.29% and the 30 year is 4.85%.

Lowering short term rates may be accompanied by rising longer term rates if the markets anticipate rising inflation leaving the cost of financing uncertain. Of course the Treasury could try to move more financing to the short end of maturities thinking that usually short rates are lower than longer term rates. So why isn’t Trump yelling at Scott Bessent to start issuing more T-notes and bonds have the Fed start buying the longer term Treasury issues to drive up their prices and down their yields. So Bessent should issue more Treasury notes and bonds and less Treasury bills. Right? What would be interesting is the market reaction to such a strategy.

Bernanke’s Fed did do something similar back in 2011, called Operation Twist (trying to twist the shape of the yield curve). His Fed keep short rates near zero while buying longer term Treasurys. All this expanded the money supply and eventually led to inflation. So does Trump want the Powell Fed to mimic the actions of the Bernanke Fed that the same critics label as a failure? It is interesting that Bernanke complained about the “fiscal cliff” that the congress was rushing toward and was trying to use Operation Twist (nee qualitative easing) to help ease the country to a soft landing. There is the famous saying that “Those who cannot remember the past are condemned to repeat it.” In this case it is repeating the same thing and expecting a different outcome.