This Friday will mark ten years since Lehman Brothers filed for bankruptcy.
Whatever happened in the decade before and wherever we want to place the blame, there is no question that the US authorities were out of the blocks pretty quickly to try and contain the financial and economic carnage. They rushed through an $800 billion stimulus programme that President Obama signed into law in February 2009, acted promptly to forcibly recapitalise banks, and the Federal Reserve started quantitative easing (QE) in December 2008. As Washington politics dulled the capacity to use fiscal policy, the Fed was left as the only agency of macroeconomic stability.
By and large, it has done a good job, even if QE has had consequences that weren’t necessarily intended. But ten years on, the Fed faces an uncertain future. We knew this before the surprise resignation of Vice Chair, and second in command, Stanley Fischer last week, but his imminent departure has illuminated the problem anew.
Fischer will be a big loss. He had a stellar reputation as an academic and practical economist and central banker. He governed the Bank of Israel from 2005-13. On monetary policy, he was somewhat on the hawkish side of the Federal Reserves’s policy making committee, but was adamant about not succumbing to political pressures for financial deregulation.
Although his term doesn’t end until June 2018, Fischer’s resignation with effect from next month, for personal reasons, brings the number of vacancies on the Fed’s seven-strong Board of Governors to four. There could soon be five because the term of Janet Yellen, Chair of the Fed, is up in February 2018. Some American presidents wait a long time for the opportunity to influence the composition of the Federal Reserve. Lucky old Donald Trump. He hasn’t even been in the White House for eight months and he has the chance to reshape it completely. The only nominee he has put forward for confirmation by the Senate so far, as Vice Chair for Banking Regulation, is Randy Quarles, a private equity executive who supports the Administration’s and Republicans’ call for banking de-regulation.
There’s a lot riding on what happens at the Fed, and not just for the US, because in many ways the Fed is a global as well as a US central bank. What the Fed says and does tends to have strong knock-on effects on global financial markets and on other central banks. A lot of attention will be on the outlook for US monetary policy, as one would expect, but another, equally important battle is brewing on the subject of bank supervision and regulation.
“Some American presidents wait a long time for the opportunity to influence the composition of the Federal Reserve. Lucky old Donald Trump”The Federal Open Market Committee (FOMC) comprises the seven nominated members of the Board of Governors and five regional Fed system presidents, whose membership of the Committee rotates annually. Right now, the five regional presidents’ votes technically outweigh the three Board members. This could give the Fed a slightly more hawkish hue for the time being. This is unlikely to affect the decision, widely expected at the next FOMC meeting taking place 19th-20th September, to start unwinding QE—that is to lower the size of the Fed’s balance sheet by selling back to the market securities purchased under the various phases of QE. But it could affect some decisions on monetary policy, specifically whether to agree a fourth rise in interest rates at the end of this year, and further changes in 2018.
The extent to which the Fed tilts to a more hawkish stance depends, of course, on how quickly new Board members are nominated and confirmed, and on whether or not Trump decides to re-nominate Janet Yellen, who could stay on the FOMC until 2020 even if he passes her by. Her chances didn’t look very bright until recently. Trump criticised her in the presidential election campaign for keeping interest rates low—though he’d give his right arm for this now. She’s an Obama appointee, is strenuously opposed to financial de-regulation, and she denies the Administration’s claim that it is possible to push US growth rate up to a sustainable 3 per cent as things stand.
Yet Trump’s cupboard is looking a bit bare now that his Chief economic adviser Gary Cohn, previously thought to be in pole position for the Fed Chair job, has fallen out of favour following his criticism of the President’s response to Charlottesville. With Fischer leaving as well, the Fed would look rather threadbare on experience and international expertise if Trump opted for a sycophant in preference to someone with Yellen’s stature, or even Cohn—who might yet restore his case in the eyes of his boss were he to craft and steer a successful tax reform package in the next few months. The circumstances, though, are not propitious.
“Trump’s government is obsessed with undermining everything with Obama’s name on it”Although the Fed’s actions and policy statements are scrutinised mostly for their interest rate content, banking regulation is at least as, it not more, important ten years after Lehman. We should watch Fed developments closely. There is no mistaking the appetite among Republicans and at the top of the White House and Treasury to roll back, or “do a big number” as Trump put it, on the Dodd-Frank Wall Street Reform and Consumer Protection Act 2010—the centrepiece of post-Lehman banking reform. The Fed should be in the vanguard of opposition. Yellen is not viscerally opposed to regulatory changes, but thinks the Administration wants to go too far.
The House of Representatives has already passed a bill that would dilute the need for stress tests on banks, loosen mortgage lending restrictions, release some banks from Dodd-Frank rules and big banks from Federal Reserve oversight, and cut back the supervisory powers of several Federal agencies, including the Consumer Financial Protection Bureau. The Republicans don’t have enough votes in the Senate to get this bill into law, but that won’t stop the party or the President or Treasury Secretary Mnuchin from trying to press their case.
The US government could do many things to help re-energise the US economy’s growth, innovation, and productivity. But Trump’s government is obsessed with negating everything with Obama’s name on it, and wrecking or undermining its best institutions. We must hope the Fed is spared.
