The last few days, President Trump has made inflammatory and in some instances misguided remarks as to the nature of current Fed policy, its impact on the stock market and potentially on the economy. Examples follow:

• “It is a correction (the decline in the stock market) that I feel is caused by the Federal Reserve.”
• “I think the Fed is making a mistake. They are so tight. I think the Fed has gone crazy.”
• “I think the Fed is far too stringent and they are making a mistake.”
• “The Fed is going loco and there’s no reason for them to do it.”
• “I think the Fed is out of control.”
• “I think what they are doing is wrong.”
• The Federal Reserve is “my biggest threat,” President Donald Trump says.[1]

In the face of these comments, Larry Kudlow, director of the National Economic Council, tried to walk back the idea that the President has been attempting to influence Fed policy and indicated that the President was merely expressing an opinion.

Presidential effort to influence Fed policy are not new, nor are they unique to the present administration, especially during an election season. For example, the Reagan administration tried but failed to get Chairman Paul Volcker to commit to not raising interest rates in the midst of the 1984 presidential election. Similarly, with a slow economy in the election year 1992, President George H. W. Bush called on the Fed to cut interest rates, discounting concerns the Fed might have about inflation. Chairman Greenspan’s Fed did not cut rates and was seen by the President as the reason for his election loss and one-term presidency.

While these presidential attempts to influence have largely played out behind the scenes, the most egregious breakdown in Fed independence involving presidential pressure involved President Nixon and Chairman Burns in the early 1970s and it had significant negative consequences for the US economy, which played out through the end of the 1970s. Leading into the 1972 election, Chairman Burns willingly responded to the President Nixon’s pressure and manipulated FOMC policy decisions to stimulate the economy as it emerged from the 1969–1970 recession. The extent and nature of that pressure has been well documented due to the existence of the Nixon presidential tapes, which are now publicly available.[2]

In the aftermath of the 1969–1970 recession, the federal funds rate declined steadily from 8.71% in January 1970 to 4.05% in January 1972, and the Fed’s discount rate was reduced from 6% to 4.5% over that period. However, at the same time, unemployment continued to increase despite an improving economy, rising from 3.9% in January 1970 to between 5.6% and 6% in the late summer and early fall of 1972.[3] Nixon was concerned about being a one-term president; and on October 10, 1971 (Conversation No. 607-11), he quipped, “I don’t want to go out of town fast.” The text of the discussion and tape played recently on national television clearly suggests that Nixon had only a rudimentary understanding of the economy or monetary policy. A month later, in another conversation, Burns reported that earlier that day (November 10, 1971) the Fed had reduced the discount rate, indicating that this stimulus would help buoy the economy. Thereafter, Burns continued to engineer additional policy stimulus and reported to Nixon on December 10, 1971, that the discount rate had been lowered ahead of the upcoming FOMC meeting and that Burns’ intention was to prod the FOMC into even more accommodative action. He stated that he aimed to “put them on notice that through this action that I want more aggressive steps taken by the Committee on next Tuesday.”[4] Burns went on to state that “Time is getting short. We want to get this economy going.”

What these and subsequent conversations clearly document is that in late 1971 and into 1972 the administration continued pressuring the Fed to expand the money supply to stimulate the economy.[5] Burns was a willing participant, effectively subordinating the Fed to presidential pressure and engaging in a rapid expansion of the money supply. Nixon not only employed jawboning but also had George Shultz put Burns on notice that appointments to the Board would be closely controlled.[6]

Burns and his tightly controlled FOMC delivered on an expansionary policy. Not only were policy rates dropped during 1972, but the Fed also engineered a very rapid increase in both the M1 and M2 money supplies. M1 growth increased from 4.51% in 1970 to 6.7% in 1971 and then to 7.56% in 1972, while M2 growth exploded even more, from 7.36% in 1970 to 11.65% in 1972. That growth continued after the election, and quarterly M1 growth was between 6.4% and 8.4% during all of 1972, while quarterly M2 growth, shown in the attached chart, ranged between 11.7% and 13.2% that year.[7]

 While the Burns stimulus clearly helped Nixon win the election in November 1972, the seeds were sown for a disastrous inflation. That inflation occurred with a lag, in part because President Nixon imposed a 90-day freeze on wages and prices in August 1971 that was subsequently extended to April 1974. The result was stagflation; and as the controls were gradually dismantled, prices began a disastrous climb. The money supply increases slowed gradually through 1973 and briefly bottomed out before accelerating again. The ensuing inflation continued until Chairman Volcker engineered a recession and broke the back of inflation.

The common feature of the three presidential attempts to induce the Fed to pursue expansionary policies all occurred a year or so before a national election and followed a recession and slow recovery. None of these conditions exist presently. The economy has been growing steadily, albeit slowly, since 2008. Inflation is at the FOMC’s 2% target, unemployment hasn’t been this low since the 1960s, job openings exceed the number of unemployed and wages have finally started to increase. As for policy, even with eight 25-basis-point increases in the federal funds target range, the Chicago Fed’s National Financial Conditions Index shows that conditions are as accommodative as they have been since the start of the recovery. Finally, with less than a month to the election, there is no action the FOMC could take that would impact the economy before the election.

This president may, as a real estate developer, like low-interest rates; but that may not be in the best interests of the economy, despite his recent assertion that he knows more than the Fed does. His claim that the Fed caused the recent stock market decline, cited in the quote at the beginning of this commentary, ignores the fact that this decline and the previous decline early in 2018 followed on the heels of the announcements of the imposition of tariffs and the declines are unlikely to be related to Fed policy moves. Jawboning the Fed but not really interfering with its independence may have an advantage. Kane(1980) argues that by leaving the Fed with a fair amount of “… ex ante discretion, elected officials leave themselves scope for blaming the Fed ex post when things go wrong.” Perhaps in anticipation of the 2020 election, this may be what the President means when he sees the Fed as his biggest threat. Fortunately, in the meanwhile Chairman Powell is secure in his position, and the members of the FOMC understand the dangers of subordinating policy to the political whims of this or any other White House.

[1] https://www.cnbc.com/2018/10/16/trump-says-fed-is-his-biggest-threat-because-it-is-raising-rates-too-fast.html
[2] What follows relies upon Burton Abrams, “How Richard Nixon Pressured Arthur Burns: Evidence from the Nixon Tapes,” Journal of Economic Perspectives, Volume 20, Number 4, Fall 2006, pp. 177–188.
[3] See Abrams (2006), Table 1.
[4] See Abrams (2006), Conversation No. 16–82.
[5] Edward J. Kane, “Politics and Fed Policymaking: The More Things Change the More They Remain the Same,” Journal of Monetary Economics, Vol. 6,(1980) pp 199-211 argues that as William McChesney Martin departed the Fed and Author Burns became chairman that the money supply assumed greater importance as a tool of monetary policy.
[6]Abrams(2006), Conversation 17-5.
[7] Source: FRB St. Louis FRED database