Trump's Threats to Fed Independence Could Backfire and Spike Interest Rates

President Trump's increasingly vocal threats to Federal Reserve Chair Jerome H. Powell's independence could have an unintended consequence: pushing up interest rates that matter most to businesses and consumers. The Fed's decisions on short-term interest rates have a limited impact on borrowing costs, whereas investors, through their buying and selling of government bonds, set long-term interest rates that influence mortgages, auto loans, and business credit lines.

Key Takeaways:

• Firing Jerome H. Powell, the Fed chair, could lead to a surge in long-term interest rates, particularly on 10-year and 30-year federal government bonds, which affect mortgage and business loan rates.
• Investors, not the Fed, set long-term interest rates, and disrupting the Fed's independence could lead them to expect higher inflation and demand higher interest rates.
• Threats to the Fed's independence could also lead investors to expect higher inflation, even if the Fed has successfully brought inflation under control, as seen during the pandemic.
• The U.S. government's massive debt burden of nearly $30 trillion makes threats to Fed independence even more perilous, as politicians may attempt to meddle with monetary policy to reduce the burden.
• A new Fed chair, considered a caretaker by economists, may be appointed to replace Powell and face intense pressure from Trump to lower interest rates, potentially repeating the mistakes of past Fed chairs who yielded to pressure from politicians.
• Economists, including Glenn Hubbard, Jason Furman, and Joseph E. Gagnon, warn that the risks associated with interfering with the central bank's independence are significant and could lead to inflation expectations becoming unanchored.
• A surge in long-term interest rates would make borrowing more expensive for businesses and consumers, exacerbating the economic challenges faced by the country.

Statistics:

• The Fed's decisions on short-term interest rates have a limited impact on inflation, which is currently above the Fed's target of 2%.
• The U.S. government's debt burden stands at nearly $30 trillion.
• Inflation, though below its 2022 peak, remains above the Fed's target of 2%.
• Economists warn that interfering with the Fed's independence could lead to inflation expectations becoming unanchored.
• Investors, through their buying and selling of government bonds, set long-term interest rates that influence mortgages, auto loans, and business credit lines.

Sources:

• Glenn Hubbard, Columbia University economist
• Jason Furman, Harvard economist and former adviser to President Barack Obama
• Joseph E. Gagnon, former Fed economist and current Peterson Institute for International Economics analyst
• Tara Sinclair, economist at George Washington University
• Colby Smith, contributor to The New York Times reporting
• Karen Dynan, Harvard economist who worked in the Treasury Department under President Obama