This week’s press conference by Federal Reserve Chair Jerome Powell was one of the most consequential of his tenure at the helm of the Federal Reserve (Fed). Not only because he did not answer any of the politically sensitive questions but, fundamentally, because he defended, unequivocally, the independence of the institution to conduct monetary policy without political intervention while at the same time defending the quality of the institution’s human and intellectual capital.
We once again make the case for the importance of Federal Reserve independence, which transcends political partisanship and is essential to the credibility of the monetary policy process. The argument has to do with the US dollar and is something that our advisors and clients are very concerned about. We have written about this issue on multiple occasions. But one of the most important characteristics of the US dollar is that its value has been the most stable of any currency in the world. And this stability is intimately related to the ability of the Fed to keep inflation contained. As such, if inflation deviates from the Fed’s target, the Fed will do whatever it takes to bring it back to the target. True, the institution could have done better in the 1970s and early 1980s, but it learned its lessons, became more detached from political influence, and adopted an inflation targeting mechanism that has helped keep its commitment to low inflation. It is also true that it may have been able to do a bit better job during the recovery from the pandemic recession, but, since inflation was a global problem at the end of the pandemic, there was very little it could have done to prevent higher inflation. What was needed was to remind markets of its commitment to bringing inflation down to the target, which it is in the process of achieving.
Central bankers are definitely not infallible. They are human beings, so they can make mistakes by placing more importance on some information rather than on other information regarding the economy. The analysis conducted, however, must be supported by economic theory, not by political views. Political views are seldom the correct answer for monetary policy decisions. Our fiscal deficits, the increase in the debt over the years, and the inability of the political system to keep its fiscal accounts in order should be evidence enough of the need to maintain the Fed’s independence from the political process. If that independence is lost, the US dollar will lose its edge over other currencies.
This is not limited to the interests of politicians; it also includes the interests of businesspeople in general. A real estate person would never recommend higher interest rates, just like a banking person would never recommend lower rates – both, irrespective of what economic theory recommends. Federal Reserve members should remain as independent and objective as possible, basing their decisions on sound economic analysis rather than the interests of any specific industry or short‑term external pressures. During the Great Financial Crisis, there were concerns about potential sector-specific implications due to the nature of the instruments used to prevent an economic depression. As an example, the purchase of Treasuries, mortgage-backed securities and agencies, intended to help lower longer-term interest rates, would benefit the US housing market the most.
