The Fed, Trump’s other “fall guy”

At the micro level, President Trump blames “bad management” for the downward turn of certain companies. At the macro level, he blames the Federal Reserve Board for a weakening of the American economy.

Of the two, the Fed is a more plausible “fall guy.” Like trade policy, but unlike “bad management,” interest rate levels are not an economic constant. They are subject to change by the Fed and such changes, or a lack of them, can have an impact on the economy.

This is not to say that Trump’s trade policy doesn’t pose a threat to the U.S. economy. But the Fed might be able partially to offset the adverse economic effects of a trade policy that, in my view, serves the long-term national interest.

Trump reportedly has said that a sharp cut in interest rates would cause the Dow Jones Industrial Average to rise by 1,000 points. This seems unlikely. However, such a raise might well keep the economy hot (but perhaps overheat it).

Right now, the bemchmark U.S. interest rate is right around 2.25 percent. Trump has tweeted that it should be no higher than 1.25 percent. He has noted that in countries like Germany, the interest rate is negative. In other words, banks pay people to take out loans.

There is a tension between Trump’s claims about how well the economy is performing and his call for a reduction in an interest rate that is already below its historical norm. Of course, the tension can be resolved if one believes that interest rates historically have been too high and/or if one believes we might well be headed for a recession.

But it’s far from clear that we are headed for a recession in the near future. Boston Fed president Eric Rosengren considers the U.S. economy to be in a “relatively strong place,” with low unemployment, rising wages, and solid growth driven by consumer spending. He opposes a rate cut.

Rosengren points out that if we actually end up in a recession — and history tells us that eventually we will — we won’t want the Fed already to have played the very low interest rate card. Certainly, a negative interest rate is a card the Fed should only consider playing in dire economic circumstances, if then.

Rosengren’s opposition notwithstanding, the Fed is expected to reduce the interest rate this month and to do the same again by the end of the year. I believe it should do so. However, as things stand now, the modest reduction expected from the Fed seems preferable to the dramatic reduction Trump is clamoring for.

Responses

Books to read from Power Line