Every six weeks, Federal Reserve Chairman Jerome Powell steps to a podium and reads a statement from the Federal Open Market Committee. The statement explains where the panel has set its federal funds rate — the rate at which it pays interest on reserves held at the Fed, and effectively a systemwide floor for interest rates across the globe. Powell then explains how the FOMC is viewing current economic conditions and when or under which circumstances its stance on monetary policy might change. And then he takes questions from reporters.
Most people don’t think of this as particularly remarkable, and the Fed press conferences themselves rarely are. But very few federal agencies provide these kinds of regular press briefings — the White House has daily briefings, of course, and the Pentagon has regular if not daily briefings. The State Department holds press events every week. But none of those departments are regulators — they respond to world events in real time.
The Fed also responds to world events in real time — certain kinds of events, anyway. And it’s important to remember that these conferences are relatively new — former Fed Chairman Ben Bernanke held the first one on April 27, 2011, a few years after the financial crisis. The reasoning behind these briefings, according to the Fed at the time, was to “further enhance the clarity and timeliness of the Federal Reserve's monetary policy communication,” and initially they were held quarterly, after every other FOMC meeting. Powell bumped that up to eight times per year, after every FOMC meeting, when he took the helm of the central bank in 2018.
But the reason these meetings are important is that the Fed is in a structurally unique position: It is a part of the executive branch, but it is also independent of that executive branch. It is overseen by Congress, but it is not funded by congressional appropriations. Its power is centralized in Washington but also dispersed throughout the country through 12 semi-independent regional Federal Reserve banks, whose presidents are appointed by their respective boards of directors and rotate on and off the FOMC each year.
The decisions that this unique institution makes can have profound impacts on the global economy — and, by extension, everyone. That power and independence have only been able to survive in a political system if the public has confidence in the Fed, and polls suggest that for the most part, it does.
But it’s never been quite as simple as that — presidents and members of Congress have tried to exert their influence over monetary policy in overt and covert ways many times over the years, and the Fed has for the most part been able to resist that kind of influence.
The Fed’s independence isn’t just a “for cause” protection from presidential dismissal for its leaders or the freedom from congressional appropriations, though those things confer independence in a literal sense. The Fed’s independence is its perception of competence and political neutrality — it is a tradition, and that tradition is in constant motion.
With Powell’s term coming to an end in February 2022, that veneer of independence that the Fed enjoys could be put into someone else’s hands. And more important, the Fed’s decadelong course of buying nongovernment assets as a part of its monetary policy — a process known as quantitative easing — could, if left unchecked, pose a greater threat to that independence than the exertions of any politician or party.
“Is there going to be a move to mandate the Fed set a certain amount of interest rates? No, not that I can see,” said Karen Petrou, managing partner at Federal Financial Analytics. “Is there going to be a move to bring the Fed under the appropriations process or alter the way even reserve bank presidents are appointed? Probably not. But that's preserving only the form of institutional independence.
“I think better questions are, 'Is the Fed — on its own account, or under pressure — taking on or going to take on tasks that inevitably politicize it?' Those, I think, are much more viable initiatives than direct politicization.”
‘An independent operation’
During a press conference in April, President Biden was asked whether he had spoken with Powell since his inauguration. He hadn’t, and when asked why, he said he had no intention of telling the Fed chair — or other independent federal agencies — how to make their professional judgments.
“The Federal Reserve is an independent operation,” Biden said. “And starting off my presidency, I want to be real clear that I'm not going to do the kinds of things that have been done in the last administration, either talking to the attorney general about who he's going to prosecute or not prosecute, and under what circumstances, or the Fed, telling them what they should and shouldn't do.”
That independence is not as longstanding and clear-cut as Biden makes it sound. The Federal Reserve was established in 1913 as subordinate to the Treasury, and behaved that way until after World War II. After a scuffle between the Fed and the Truman administration over monetary policy, the Treasury and Fed issued an agreement in 1951 that formally divorced debt service obligations from monetary policy choices, creating a Fed that was far more insulated from political influence than it had been before.
Independence is as independence does, and different Fed chairs and administrations have respected those limits to greater or lesser degrees. William McChesney Martin, who served as Fed chair from 1951 to 1970,
Despite these encounters, presidents have traditionally renominated sitting Fed chairs, even those nominated by prior administrations led by opposing parties. Martin, the longest-serving Federal Reserve chairman, was nominated for the position by Harry Truman, and was renominated by Dwight Eisenhower, John F. Kennedy and Lyndon Johnson. Alan Greenspan was first nominated by Ronald Reagan in 1987 and renominated by George H.W. Bush, Bill Clinton and George W. Bush.
Donald Trump famously declined to renominate Janet Yellen — who was nominated by Barack Obama — for a second term as Fed chair, instead choosing Powell, at the time the only Republican on the board of governors. (Trump would go on to regret the decision, by his own account, as Powell continued the Fed’s program of raising interest rates.)
Now, with Biden in office and Powell’s term coming to a close next February, the administration is mulling whether Powell himself should be renominated or swapped out for a like-minded Democrat. But replacing Powell may not be so straightforward.
“For the Fed’s own institutional purposes — which is to maximize the space within which it makes policy — Powell's reappointment is vital,” said Peter Conti-Brown, assistant professor at the University of Pennsylvania’s Wharton School of Business. “He has what virtually no other candidate has — and no other candidate will have, in the event they become a Biden central banker — which is incredible bipartisan credibility, the likes of which we have not seen since Alan Greenspan.”
That credibility is important because the Fed’s independence is as much perception as reality — and the same is true of other “independent” institutions within government. The Supreme Court was designed the way it was in the Constitution so that it would be politically independent, though its members are clearly chosen for political reasons. The Justice Department is considered independent, but the attorney general serves at the pleasure of the president. There is far more nuance in asserting independence beyond the letter of the law, and that is especially crucial for a central bank.
“Independence, especially in the central banking context, describes a web of relationships that the Fed maintains, in order to practice central banking policy,” said Conti-Brown. “So is the Fed independent? A better question is, What is the Fed’s long-term and short-term relationship with political actors in the White House and on Capitol Hill?”
Picking a Fed chair for an administration is not the same as picking a secretary of defense or a Supreme Court justice. Senators tend to be very picky about who sits on the Fed — two of Trump’s nominees, Marvin Goodfriend and Judy Shelton, were denied seats on the board of governors because of controversial views on monetary policy. But four other nominees passed with bipartisan votes. Saikrishna Prakash, a professor at the University of Virginia School of Law, says senators tend to look for independent subject matter experts to fill Fed seats and dismiss unqualified or controversial picks.
“Most of the people appointed to the Fed don't view themselves as just apparatchiks of a party,” Prakash said. “So as a senator, how do you foster that? By being very skeptical about whether this person is going to be independent.”
But the president also has to satisfy his party base’s demands for impactful appointments. Sen. Elizabeth Warren, D-Mass., said in July that she was skeptical of Powell’s renomination, arguing that his votes in favor of many of the Trump administration’s regulatory changes for bank holding companies make the financial system less resilient, harm consumers and reward investors.
“The chairman of the Federal Reserve has two obligations. One, to lead us in monetary policy, and the second, in regulating the largest financial institutions,” Warren said. “I have asked the chairman repeatedly from the time he was nominated about his views on regulation. I am concerned when I see the rules weakened rather than strengthened.”
But there are other nominations to go around, or soon will be. The Fed board has one vacancy, and Trump appointee Richard Clarida’s term expires in January, potentially creating another. Randal Quarles’s term as vice chairman expires in October, and he is widely expected to resign sometime early in 2022. That could give Biden the opportunity to have his cake and eat it too — renominating Powell and giving progressives the representation they’re looking for. And Powell is unlikely to stand in the way of more aggressive bank regulation should it come before him.
“I think that the Democrats would be crazy not to reappoint Jay Powell,” Conti-Brown said. “Although he did vote consistently on all of the Trump administration's regulatory and deregulatory prerogatives, he did the same under the Obama administration as well.
“What that means is that Powell, although he is quite an expert at bank regulation, he simply doesn't care that much about it. He takes the view — which I think is the correct view — that the administration should determine the agenda for financial regulation.”
Mission creep
This is as good a time as any to point out that the Fed does lots of other things besides set monetary policy and regulate bank holding companies. It also regulates the
And the result of having this centralized-yet-decentralized, sprawling network of top-flight talent is that the Fed ends up being tasked with complicated financial responsibilities — regulating the payment system, for example, while operating its own payment system at the same time — because it is viewed as competent and on-the-level.
“It certainly creates a strong institutional view of itself as a powerful, but independent, straight-shooting institution that is the best place to take on certain roles,” Petrou said. “The Fed is seen, not just by itself, but also by others as the right place for so critical an infrastructure function.”
That same motivation to charge the Fed with important government tasks made it a valuable partner during both the 2008 financial crisis and the coronavirus pandemic relief efforts. But that willingness to be the buyer of last resort for all manner of financial securities could also make it a political target.
Before 2008, the Fed executed its monetary policy operations by buying or selling government securities — either infusing more cash into the system to make it cheaper or selling securities to make lending more expensive.
But in 2008, at the dawn of the Great Recession, the Fed began a program of paying interest on bank reserves — money that banks have always had to keep in their Fed accounts as part of their membership in the Fed system. Banks have traditionally kept as little in those accounts as they could, because those funds accrued no interest. Because banks saw this non-interest-bearing cash reserve as a tax, Congress passed a law in 2006 that would allow the Fed to pay interest on reserves, but the crisis created a new kind of problem — it needed to pump a lot of liquidity into the financial system fast, and lowering interest rates alone would not do the trick.
So the Fed began buying assets in exchange for cash, and that cash went to banks through their Fed accounts, and those accounts bear interest — in fact, that interest rate is what the Fed decides on during its Federal Open Market Committee meetings every six weeks. The process of buying assets to inject liquidity is called quantitative easing, or QE.
George Selgin, the director of the Cato Institute’s Center for Monetary and Fiscal Alternatives, said that the result of this arrangement is that short-term monetary policy can theoretically be managed independently of the Fed’s balance sheet — expanding the balance sheet doesn’t necessarily make inflation spin out of control.
“I do think we are experiencing a greater tendency than perhaps any time in the recent past for either the administration or Congress to put pressure on the Fed to depart from its usual mandate and pursue or help the government pursue other kinds of ends,” Selgin said. “With this new setup, the Fed’s capacity to buy this, that and the other thing is much greater. And that has turned it into much more of a target for pressure from different groups, different politicians who would like to see it use that power to buy different kinds of assets or support different kinds of programs.”
The Fed is only allowed to directly hold government-issued obligations, typically Treasuries. But in the 2008 crisis, the Fed bought hundreds of billions of dollars’ worth of mortgage-backed securities from Fannie Mae and Freddie Mac, which had recently fallen into government conservatorship, because those assets needed a buyer. When the COVID-19 pandemic struck, the Fed established several facilities to purchase a wider range of assets in distressed markets, including corporate bonds, exchange-traded funds and municipal bonds, with the assistance of the Treasury and with billions of dollars allocated by Congress to offset losses.
But the Fed’s role in buying all kinds of different things during a crisis may have exposed itself to political demands — from Congress, say, or the White House or the public — that it buy green bonds or border wall bonds or some other security that furthers a political agenda. Even if the Fed has no interest in pursuing those goals, it now has a harder time arguing that it can’t.
“Janet Yellen, at one point in 2016, at the Jackson Hole conference,
The law doesn’t allow the Fed to go out and buy whatever it wants whenever it wants — in the past two crises, the Fed’s purchasing activities have been directed by Congress. But other central banks have already started expanding what they buy and why. In 2019 the European Central Bank began
Congress has also raided the Fed coffers before. In the 2015 highway bill, Congress capped the Fed’s excess capital account at $10 billion and directed the surplus funds in that account back to Treasury — effectively finding some $19 billion to pay for more highways.
“We've already seen it actually done in the United States, when Congress took advantage of the Fed’s capital reserves, and essentially confiscated them to fund a highway transportation bill,” Selgin said, “So we know that Congress is capable of looking at the Fed as a giant piggy bank for various projects. So you can imagine people in Congress or in an administration, kind of wringing their hands and say, 'Boy, would I like them to, you know, fund this program or fund that program.' ”
To be clear, there is no reason to think that the Fed would embrace such asset purchases or that it wants to move in this direction. Quantitative easing came about because the Fed, the Treasury and Congress had to think fast in a crisis to keep the economy afloat, and this is what they came up with. And notwithstanding the more recent jump in prices, inflation has been at or below the Fed’s target since QE came along.
Steven Kelly, a research associate at the Yale Program on Financial Stability, said there’s a big difference between what the Fed is willing to do in a financial crisis and what it might be willing to do under normal circumstances. The Fed picked winners and losers in 2008 and 2020 — bailing out banks and other firms in the former case, buying a wide range of securities, corporate bonds, ETFs and other assets to forestall a sell-off in the latter. But the alternative to those actions was doing nothing, and that choice would have had political consequences for the Fed as well.
“Certainly the Fed has at least the perceived role in picking winners and losers,” Kelly said. “I would say that's a less political job than letting everybody lose, and that to me would be a bigger threat to its independence.”
Blurred lines
It’s also important to acknowledge that the Fed hasn’t done any of these operations on its own — emergency asset purchases in the last two crises happened in coordination with the Treasury Department and Congress. Going along with Congress and Treasury made the Fed a team player, but it doesn’t mean that if the right advocates asked the Fed in the right way they might get their assets purchased — there would have to be some kind of directive from Congress.
“I think there's a strong argument to be made at the Fed didn't need the Treasury for [what] it did,” Kelly said. “That being said, if the Fed was to do some seriously risky lending where expected losses would be involved, it would need the Treasury to do that. And that's where this kind of formulaic mission comes in for the Fed, in that it's very focused on its very specific mandate.”
These emergency actions by the Fed, Treasury and Congress were made in the name of financial stability, but those actions have made it a little less clear what the distinctions are between fiscal policy — spending money on something because Congress and/or the administration feel that something is a priority — and monetary policy, where the Fed buys assets or adjusts rates to ensure maximum employment and stable prices.
Chris Campbell, former assistant secretary of the Treasury for financial institutions from 2017 to 2018 and now chief strategist at the consulting firm Kroll, said the blurring of those lines between fiscal and monetary policy is a direct outgrowth of the extraordinary measures undertaken in 2008 with the passage of the Troubled Asset Relief Program, which directly injected hundreds of billions of dollars into banks.
“I think it goes back to TARP. The original TARP was a very wide open, very huge check,” Campbell said. “I think the Federal Reserve has since 2008 taken on a much greater responsibility of solving some of the greater existential threats that are coming about, and I think there's some arguments to suggest there's been a blending of fiscal monetary policy. And where does one end and where does the other begin?”
The risk is that the blending of fiscal and monetary policy becomes normal and inconsequential, Selgin said, because once it is viewed as unremarkable it isn’t that much of a leap to direct the Fed to buy assets in a nonemergency setting.
“The crisis creates a situation where an innovation may be justified,” Selgin said. “But if you're not careful, that innovation will end up being abused in noncrisis times. If you allow it to, you've set things up so that in noncrisis times, it's possible to resort to a measure that was originally meant to be a crisis or emergency measure.”
It’s also worth remembering what the Fed’s independence is for — as William McChesney Martin said, to take away the punch bowl just as the party is getting good. Put another way, the Fed is supposed to be willing and able to let recessionary conditions take hold if it’s for the good of the greater economy.
In 2008 the Fed, Treasury and Congress went to extraordinary measures to save teetering firms not because they didn’t deserve to fail, but because their failure would inflict catastrophic collateral damage on the rest of the economy. And in 2020, the economy ground to a sudden halt because of a pandemic and millions of Americans were out of work through no fault of their own, and on principle the government was not willing to let them starve. But those are extraordinary circumstances that reach far beyond simple market stability or market correction.
“They were really staring into the abyss in March 2020, and so the Fed basically threw the kitchen sink at this problem,” Kelly said. “And when it turned out corporate bonds didn't really need much help, they didn't buy that much. And they hold the facility, and now they're selling the stuff. And if an oil and gas company gets in trouble tomorrow, the Fed’s not going to be there for it. If crypto blows up tomorrow, the Fed’s probably not going to be there. There are certainly conditions in which the Fed will sit back and kind of shrug its shoulders and tell people to kick rocks.”
As the economy emerges from COVID — and that emergence has been somewhat less linear than experts had hoped — deciding just how much monetary accommodation to offer and to whom is going to be increasingly difficult for the Fed. If a dramatic decline in the value of cryptocurrencies wipes out billions in value, does the Fed step in the way it did for corporate bonds? If household formation is stalled for a want of affordable entry-level housing, can the Fed convincingly argue that it can do nothing to boost the housing supply when it already bought billions in mortgage-backed securities? If hurricanes and wildfires become more commonplace, does the Fed have an obligation to treat climate change as a systemic risk?
“It's becoming harder, not easier, to become a Fed chairman,” Campbell said. “If inflation is here to stay, if some sectors heat up, if there's a bubble somewhere, if there's a debt crisis — whatever we're coming into, whatever the next crisis is, it is very unpopular, and will be very unpopular to start tapering.
“Now more than ever, it's really important that there be an independence of the Fed. We're on the precipice of having to make some very difficult decisions, I believe, that are going to be perhaps the right thing for the economy.”
