Trump wants to play God with cheap money. It’s backfiring spectacularly

John Rapley is a contributing columnist for The Globe and Mail. He is an author and academic whose books include Why Empires Fall and Twilight of the Money Gods.

Donald Trump began his second term with a plan to take over the Federal Reserve and bend it to his will, flooding the economy with cheap money and sending it aloft.

Step 1 was to fill any vacancies on the seven-member board of governors with loyalists. With two already appointed by him in his first term, an early resignation opened a third spot, which he filled with the chair of his Council of Economic Advisers, Stephen Miran.

Step 2 was to identify a fourth governor he could remove, enabling him to thereby secure a majority on the board. When one of his staff dug into government files and flagged the possibility that governor Lisa Cook might have falsified a mortgage application years before, he pounced and fired her.

Step 3 was, once he replaced Ms. Cook, have the majority-Trump board veto any of the five January nominations from regional Federal Reserve Banks to the Federal Open Market Committee (FOMC) that didn’t toe his line. Since the FOMC, comprising seven board members and five regional bank nominees, sets official interest rates, Mr. Trump would have a board dominated by loyalists.

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The final step was then going to be to install a loyalist as chairman when Jerome Powell’s term comes to an end next spring. Given the long-standing practice of consensus at the Fed, which gives the chair outsized influence on the board’s direction, Mr. Trump could thereby ensure a supine central bank that fulfilled his will.

But then, things started to go awry. Ms. Cook fought her dismissal in court, and a judge ruled Mr. Trump could not remove her until the legal process to do so had taken its course. Barring a shock development in her case, therefore, she’ll keep her position, preventing Mr. Trump from securing the majority he needs to block nominations from regional Federal Reserve Banks. Next year’s FOMC will not just do his bidding.

Meanwhile, though Mr. Miran did as expected and immediately began voting for deep cuts to interest rates, his views stood so far outside the consensus that other governors began to regard him as a lone wolf. Mr. Miran then took to openly expressing his views that the Fed needed to change course, something which had the unintended effect of lifting the traditional discretion that governors exercised when speaking in public. Others began doing likewise, expressing a range of views which revealed a deeply divided board.

The effect has been to apparently end the decades-long practice of chairmen dominating the rate-setting committee and trying to engineer consensus. The FOMC members have gone back to voting as individuals. That’s probably for the better, since it ends the groupthink that was seen to have hobbled the Fed in the past. But it also means Mr. Trump’s ability to sway the FOMC with the next chairman nomination will be diminished, as his choice will be just one more board member.

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And it appears that the FOMC members are determined to prove they aren’t Trump lackeys by asserting their independence and following the data, rather than presidential pronouncements. Given that right now, there’s a lack of official information on the state of the economy owing to the recent lockdown that interrupted data collection, most members are proceeding with caution regarding future rate moves.

Accustomed to a central bank that cuts interest rates every time asset prices fall, Wall Street wants cuts soon to support a faltering market. But the Fed governors seem to be paying more attention just now to a Main Street anxious about inflation, which rate cuts could stoke. Moreover, central banks have become more adept at using targeted interventions rather than broad-based easy money policies to forestall bank runs.

In 2022 and 2023, during first Britain’s budget crisis amid the ill-fated Liz Truss premiership and then the regional bank crisis in the United States, rather than pump money indiscriminately into the economy, the Bank of England and Fed, respectively, provided credit only to the strained parts of the financial system. That worked to calm things down.

So, if markets begin falling sharply, the Fed may not come to the rescue as it once did. Seemingly less preoccupied with the wishes of Wall Street or the White House than with the general state of the economy, the Fed members may choose a different course this time. Until they are persuaded that unemployment has become a bigger threat than inflation, they will probably proceed cautiously.

In consequence, it’s a coin toss whether interest rates come down another notch at next month’s Fed meeting. But next year, barring a collapse in markets and the economy, they may not come down much at all, and could even go back up a bit. The Fed seems to be using a bit of tough love to push investors through a detox from the easy-money era.

The President wanted a new Fed regime. The one he’s getting isn’t that one.