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Under Trump, Will Hard Money Republicans Settle for Easy Fed?

Joseph E. Gagnon says it’s hard to know what kind of monetary policy Donald Trump will favor as president, given his flip-flopping on the issue of interest rates, but adds he may try to keep the more hawkish elements of his party at bay in order to boost short-term economic growth.

Unedited transcript

Pedro da Costa:  Hi I'm Pedro da Costa, welcome to Peterson Perspectives. Donald Trump has been elected president. What will this mean for the Federal Reserve, for the broader economy and for the relationship between the fed chair and the president of the United States?

To discuss that, we have Joseph Gagnon; he's a senior fellow here at the institute and a former Federal Reserve economist. Thank you so much for joining me.

Joseph Gagnon:  Good to be here.

Pedro da Costa:  So let's start with the fact that Donald Trump has taken both sides of monetary policy during the campaign and I wanted to ask you, which Donald Trump you think will be the president.

He's criticized Janet Yellen for keeping interest rates low accusing her of favoring the Obama administration and he's also warned that the stock market bubble was about to pop because of excessively loose monetary policy.

He has a lot of power to reshape the institution, which way do you think he will push it?

Joseph Gagnon:  A difficult question to answer but really interesting because he said he likes low interest rates and he wasn't happy that the Fed was keeping rates low to help Obama, but another clue that he might like them to keep rates low to help him. But on the other hand, all the Republicans of Congress who care about monetary policy and who are in his party, have wanted a tight money kind of Fed term and the number one—

Pedro da Costa:  Paul Ryan—

Joseph Gagnon:  Paul Ryan, but many of them. They've had even bills that would push the Fed in that direction. And so it's really going to be interesting how this plays out because Trump might have instincts towards easy money, but all his fellow Republicans that care about this, as well as many of the people that he's talking about for high positions, feel the other way. So that's going to be interesting.

Pedro da Costa:  Yeah, it will be an interesting dynamic to watch. So this legislation, this audit the Fed legislation, it started, of course, as the end the Fed movement with Ron Paul and it was diluted into auditing the Fed which many Federal Reserve officials and most mainstream economists think could be extremely intrusive to the conic monetary policy.

Do you think this legislation will have legs now that the president now was control of the house and the senate and what kind of impact could that have on monetary policy?

Joseph Gagnon:  So I've always felt that the legislation that's been proposed so far, at least what I'm aware of, which audit the Fed bills, bills that are trying to fit more of a rule and type behavior, are not nearly as bad when you read them as they sound at first. I'm less worried about that.

But, that's just the beginning. Who knows what other legislation might be proposed and all bets are off in terms of how bad that could be. But I think that up until now, frankly, the fed has been, I think, exaggerating the damage of what has been proposed so far.

Pedro da Costa:  Because it wouldn't actually cause them to have immediate reactions to monetary policy, but simply, force them to have some kind of reporting mechanism, which already kind of exists.

Joseph Gagnon:  Yeah, it doesn't have to follow any specific rule. It says first of all, you can choose the rule and second of all, if you don't follow it, you can always explain why. It's just a mechanism to communicate what you're doing.

I think it's not so bad; well now audit the Fed thing, GAO can give their view on Fed Monetary Policy, well fine. Many people can have their view on monetary policy. I don't think that's such a big deal.

Pedro da Costa:  As far the appointments, I don't want to get into speculation because it's too early to know who he might appoint, but he has the power to do a lot because there are two open seats. There's the potential appointment of a vice chair for regulation and, of course, he's vowed not to renew Janet Yellen's term when it ends at the end of next year, is that right?

So do you think at least that part he will follow through on? Can we safely expect that Janet Yellen's term will end at the end of next year?

Joseph Gagnon:  Technically January, I think, 2018. I imagine he wouldn't reappoint her because she's known to be a Democrat- a democratic appointee. But he might, it's not impossible if he likes low rates and she keeps rates low, maybe he will, I don't know, we'll see.

The interesting thing is that he gets to appoint a chairman and vice-chairman; I'm not sure when Fischer's vice chair term comes up. It might be a little bit later than that.

He has two vacancies already and if he appoints someone else to the vice chair for financial regulation, people are saying that Dan Truvello who has been sort of doing that job might leave.

So you're talking about five appointments, including the most important ones within the first two years—year and a half or so maybe.

Pedro da Costa:   So it's a reshaping of the institution.

Joseph Gagnon:  It's a very quick reshaping. But even five is not a majority of the FMC which is 12 votes.

Pedro da Costa:  No, sticking to the regulatory issue, because of course, he's made that priority number one, he's vowed to roll back Dodd-Frank completely. What does this mean for a Federal Reserve that kind of has staked his credibility almost on the implementation on this legislation?

These guys were involved in the development of laws and so now he—but of course they had to follow the presidential mandate. It puts them in a tough spot doesn't it?

Joseph Gagnon:  I wonder when they say repeal entirely or rework or something, but it's certainly a headache for the Fed. Quite frankly it seems odd for someone who has complained about insider influence in Washington and Wall Street. To then want to do something that would seem to actually go against what he said about the influence of Wall Street on Washington.

Pedro da Costa:  Well in that regard, he's also flip flopped on what's been reported that he reached out to Jamie Diamond, the CEO of JP Morgan to become treasury secretary so that would be the ultimate move away from the promises that he seems to have made mainstream.

Now I just want to-

Joseph Gagnon:  Although interestingly, Diamond was associated with Obama and is considered to be a democrat. It's sort of interesting.

Pedro da Costa:  Apparently, Diamond doesn't want the job so it might be a moot point. We might end up with Jeb Hensarling as treasury secretary; he's also in the running.

Lastly, Joe, to get more concrete about the outlook, does you still think they're going to hike rates in December? And what's the outlook for next year?

Joseph Gagnon:  I think they're going to hike rates in December. I don't think we have any data that would—unless data come through, but that wouldn't be because of the election. So unless data happened that would cause them to change their mind, which would be unlikely but could happen. 

In terms of the election results, I think if anything, we're looking at probably more tax cuts and spending, perhaps infrastructure spending which would increase the deficit and that would tend to boost the economy which would probably cause the Fed to be even more likely to raise rates although not in a huge rush. But I think it makes, if anything, rate rises somewhat more likely.

Pedro da Costa:  Thank you so much.