The Federal Reserve is in a tough spot. It expects to cut interest rates soon. But doing so before an election will yank the apolitical central bank directly into a partisan fight.
Fed officials have lifted borrowing costs to 5.3 percent, the highest level in decades, to slow inflation. Now that price increases are fading, Fed officials think that they can dial back that response starting later this year. Investors expect the first move to come in June or July — just as the election kicks into high gear.
Donald Trump, the presumptive Republican nominee, says rate cuts this year would probably be an effort to help Democrats. Lower rates can lift markets and help the economy, so politicians tend to prefer cheap money when they are in office.
Fed officials insist that rate changes would respond to economic conditions, not politics. Still, they can’t ignore the vitriol. If they ramp up during the campaign, Trump’s attacks could convince his supporters that the Fed is bending to partisan whims. And in the long run, a loss of popular support could expose the central bank, which answers to Congress, to lawmaker censure or even political tinkering.
Prized independence
The central bank sets policy without having to check its decisions through Congress or the White House.
That doesn’t mean that Fed officials are free to do whatever they want. Congress has given the Fed its goals — full employment and low, stable inflation — and it holds regular oversight hearings. The White House influences the central bank by nominating the Fed’s chair, vice chair, and other Washington-based governors.
But even if elected officials shape it, the Fed is insulated from immediate political backlash as it sets actual policy. That is because its big job — controlling inflation — can be very unpopular in Washington. Its efforts have been blamed for slowing the economy severely enough to harm or even doom both Jimmy Carter’s and George H.W. Bush’s re-election attempts. In fact, incumbent politicians used to frequently harangue Fed chairs for lower interest rates in public and in private. (Lyndon B. Johnson reportedly cornered his Fed chair against a wall at his Texas ranch.)
Such critiques stopped in the 1990s, when the Clinton administration started a tradition of not commenting on Fed policy.
Trump ended that tradition during his term in office, pushing loudly and constantly for lower interest rates to help goose the economy. He called Jerome Powell, his pick for Fed chair, an “enemy.” He looked into firing Powell, only to learn that doing so was nearly impossible.
Now that Trump is back on the campaign trail, he’s much less welcoming to low rates, since presumably Biden would benefit from them. He says it would be political for the Fed to cut borrowing costs, and he has kept up his criticism of Powell, whom President Biden renominated.
“He’s going to do something to probably help the Democrats, I think, if he lowers interest rates,” Trump said this year.
Apolitical Fed
There’s little reason to think that rate cuts by the Fed would be a ploy to bolster Democrats.
“We’re working to serve all Americans, not any particular set of Americans or political parties or leaders,” Powell said during an event last week, one of several times he brought up or addressed the central bank’s independence.
Fed officials have been clear that they are setting policy in response to inflation data. The Fed’s favored inflation gauge has dropped to 2.5 percent from a peak of around 7 percent. Officials are now simply waiting for further confirmation that inflation is under control to make a move.
Not to mention, Fed policies take time to trickle through the economy, so it’s not clear how much a summertime rate cut would reshape the economy before November elections.
Finally, Fed officials have limited reason to cave to political pressure: They serve long terms, are difficult if not impossible to remove and don’t all come from a single political party. Transcripts and inside accounts confirm that in recent years, politics rarely come up at Fed meetings.
But even if the Fed sets policy without an eye toward politics, officials want to make sure America knows and believes that. The Fed relies on public belief to do its job. When people and companies think that the Fed is focused on fighting inflation, they expect inflation to hover at modest levels over the long run. That confidence helps to shape their behavior in ways that can help to keep inflation under control. Businesses don’t jack up prices as quickly, for instance.
“The Fed is, to me, a very important American institution that serves all Americans on a nonpolitical basis,” Powell said last week. “Integrity is everything.”
Related: An earlier Fed chair, Arthur Burns, is remembered as someone who bent to political pressure. Some say that’s not fair.
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