Trump vs US Federal Reserve

During Donald Trump’s election campaign he promised on reducing the cost of borrowing i.e. interest rates – see video from the WSJ. However, the US Federal Reserve has the mandate to maintain price stability and sustain maximum employment by adjusting interest rates. US Fed chair Jerome Powell emphasised the importance of the Fed’s independence in their decision making and should not be influenced by a political agenda:

“That gives us the ability to make decisions for the benefit of all Americans at all times, not for any particular political party or political outcome.”

Trump’s plans to reduce taxes and implement significant, broad-based tariffs could lead to high inflation in an economy already nearing full capacity. Should inflation pick up again, the Federal Reserve would be compelled to maintain higher interest rates. Also Powell might not cut rates as much as Trump will want although the latter’s other policies could keep borrowing costs high.

The US Fed has recently been cutting interest rates but its key short-term rate can influence rates for credit cards, small businesses and some other loans. But it has no direct control over longer-term interest rates. Political leaders have typically wanted central banks to keep interest rates low to support the economy and the job market, especially before an election. Research has found that countries with independent central banks generally enjoy lower inflation. When consumers and businesses begin to expect higher inflation, they often behave in ways that drive prices up further—such as making purchases sooner to avoid future price hikes or increasing their own prices in anticipation of rising costs.

Can Trump fire Powell? If Trump were to try and fire Powell a long legal battle would ensue ending up in the Supreme Court. In the video Powell makes it clear that he will not stand down from his position which ends in May 2026. Furthermore for Trump to attempt this would impact the stock market in a negative way especially if he appointed one of his loyal supporters to replace Powell when his term finishes. Thomas Drechsel, an economist at the University of Maryland, said that when presidents intrude on the Fed’s interest rate decisions,

“it increases prices quite consistently and it increases expectations, and … that worries me because that means inflation might become quite entrenched.”

Independent central banks Most advanced economies follow the approach of being independent of government. However, in some recent instances, such as in Turkey and South Africa, governments have attempted to influence central bank interest-rate policies directly. This has often led to surging inflation. In Turkey, President Erdogan pressured the central bank for years to lower interest rates, even as prices soared. He dismissed three central bank governors who resisted his demands. As a result, inflation soared to 72% in 2022, based on official figures. Last year, Erdogan changed course and permitted the central bank to increase interest rates.

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