Economic observers commonly remark that the chair of the Federal Reserve System is the second most powerful person in Washington. Though probably an overstatement, this trope nonetheless reflects the fact that our central bank has an enormous impact on financial conditions not only in the United States but also, because of the key role of the U.S. dollar in global markets. That means the Fed can, for good or ill, impact economic growth, employment, wages, inflation and investment from Alabama to Azerbaijan. And, as the primary leader of such a powerful institution, the chair of the Fed holds the key to most of these policies.
The four-year term of the current chairperson, Jerome Powell, ends February 2022, and President Joe Biden must soon decide whether to reappoint him. Even under normal circumstances, this decision would be highly consequential. But now, the implications could be monumental.
The Biden administration and the United States face a number of profound challenges which the Federal Reserve must help confront: facilitating the continued economic recovery from the pandemic’s destruction; promoting maximum employment and decent living standards, including accelerating opportunities for oppressed racial and ethnic groups and others facing unfair structural barriers; helping to make the economy more resilient to global warming and, more importantly, assisting the U.S. and the world make the massive but critical transformation to a fossil fuel-free economy; and accelerating efforts to protect the economy from reckless, destructive and unstable financial decisions by politically and economically powerful megabanks and other financial institutions.
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Importantly, the Biden administration is taking on most of these challenges. President Biden wants to end the pandemic, combat the climate crisis, address structural racism and inequality, “build back better,” and promote full employment — while keeping the financial system from melting down for the third time in less than 15 years. Whom he picks to be the next Federal Reserve chairperson could not be more important. The next chair of the Federal Reserve will lead the Fed in playing an appropriate, active and effective role to help address these issues at this critical time, or he or she will drag the Fed’s feet and even oppose the actions that must be taken. The success of the Biden administration’s agenda, to say nothing of the health and welfare of the American people, could hang in the balance.
Some progressive lawmakers, including Sen. Elizabeth Warren (D-Massachusetts), Rep. Ayanna Pressley (D-Massachusetts) and Rep. Alexandria Ocasio-Cortez (D-New York) and progressive groups have raised serious questions about a Powell reappointment. But there are many, across the political spectrum, who think the choice is obvious: that Biden should simply reappoint Powell, since he seems to be doing a good job. But this is far from obvious. In fact, a Powell renomination raises serious concerns simply based on his record. And then when the challenges facing the U.S. and the Biden administration are considered, these serious concerns mount further.
Republicans in Congress believe that the Fed should “just” focus on the outcomes that the Federal Reserve is narrowly tasked with addressing, namely maximum employment and stable prices. And since the great financial crisis of 2007-2009, financial stability has also been added as an explicit important goal. But even if the focus is “only” on these three goals, Powell’s record is problematic. And if we take into account the ramifications of the failure to address systemic racism in the labor market and the climate emergency, then reaching these three basic goals (maximum employment, stable prices and financial stability) becomes a much more difficult task. So we cannot neatly separate out these broader goals from the narrower list.
In terms of the substantive policy arguments, many of those in the center and on the left who are supporting Powell’s reappointment appear to be basing their views on Powell’s record on the first two of the standard mandates: maximum employment and price stability. With the onset of the pandemic, Powell committed the Fed to placing a monetary floor under the severely threatened economy by injecting the economy with massive amounts of liquidity, supporting broader swaths of the economy — albeit sometimes grudgingly, like in the case of the municipal lending facility — by administering special lending facilities created by Congress to support small businesses, municipalities, and others during the dark days of Spring and Summer 2020, and by resisting pressure to pull back many of these supports even as the economy was recovering and inflation fears began to mount. Powell’s support of maximum employment pre-dated the pandemic and dovetails with a mission of attacking structural racial and ethnic employment inequality by supporting the adoption of new monetary policy guidance that would allow for the temporary overshooting of the inflation target in order to sustain economic recovery that would generate demand for workers deeper and deeper into the pool of the unemployed and underemployed.
In these areas — employment and prices — with positive spillover effects on aspects of racial and ethnic inequality — Powell deserves good marks.
But supporters who focus only on these areas are ignoring another crucial component of the Fed’s job — financial regulation and financial stability — where Powell has a much more problematic record. By supporting questionable policies in the area of financial regulation, Powell has likely jeopardized some of the progress made on employment issues. These policies have most likely also greatly exacerbated wealth inequality, minimizing the otherwise positive results that would follow the change in monetary policy toward the Fed’s inflation target.
As experts on financial regulation at the Americans for Financial Reform (AFR) and Better Markets have documented, in recent years, during the Trump Presidency, Powell supported numerous Federal Reserve initiatives to roll back financial regulations that had been put in place as a response to the Great Financial Crisis of 2007-2009. In addition, as AFR notes,
The Powell Fed did more than water down Dodd-Frank reforms…. It also weakened core supervisory tools that federal bank regulators have always used to monitor bank risk-taking and compliance with laws. Led by Chair Powell, the Fed has effectively turned off some of the early warning systems regulators used to detect emerging risks to the financial system.
These de-regulatory moves came just prior to the global financial market meltdown in March 2020 when the pandemic hit, a meltdown made potentially much worse by the buildup of speculative excesses and high debts that U.S. financial regulators, led by Powell’s Fed, had allowed to accumulate. As Better Markets puts it, “Many of the Fed’s actions in response to the pandemic were necessary given the unprecedented uncertainty it caused…. But it is important to remember that the scale and scope of those actions were needed not just because of the pandemic, but because of preexisting fragility and instability in the financial system.” As a result of the turmoil exacerbated by previous failures to regulate, especially the nonbank financial system, the Federal Reserve had to commit trillions of dollars to sustain the financial system.
The Fed did run some congressionally mandated programs to help small businesses and municipal, state and local governments. But the latter program was so narrowly drawn and involved such high interest rates that it provided very little direct help. The upshot is that, despite having more than 10 years to implement a thorough-going financial regulatory regime, in March 2020, the Fed still found itself in the position of having to bail out the financial markets when the pandemic hit, while simultaneously giving relatively short shrift to specialized facilities to help out communities, small businesses and local governments. In the absence of a strong commitment to financial regulation and the will to enforce it, this destructive cycle of speculative excesses, financial crises and bailouts is simply going to continue.
Central Bank Independence: The Perennial Red Herring
Right-wing, mainstream and even some progressive observers have argued that Biden should reappoint Powell in order to protect the so-called independence of the Federal Reserve. One version of this argument is that it is “traditional” for the incoming President to reappoint the current Fed Chair to a second term in order to acknowledge the Fed’s independence. According to this view, it would be good to restore this “tradition” since Donald Trump violated it by refusing to reappoint Janet Yellen as chair of the Fed. However, there are several problems with this argument. First, there is no such tradition at the Fed. More importantly, the idea of Federal Reserve “independence” is mostly a cover to protect the outsized power that the financial industry holds over Fed policy, and to undermine the democratic control of the Fed that is written into its by-laws and is consistent with a functioning democracy.
If one looks at the Fed chairs since 1936 when the current governance structure was adopted, some incoming presidents did reappoint the current chairs and some did not. And some were pushed out and some simply resigned.
Marriner Eccles was chair from 1936-1948 and when Harry Truman was elected president, he appointed a different chairperson, Thomas McCabe. Arthur Burns, who had been Richard Nixon’s appointee was not reappointed by Jimmy Carter when he became president. Paul Volcker, chair from 1979-1987, would not have been reappointed a second time by Ronald Reagan. And, as mentioned earlier, Trump did not reappoint Yellen. So, far from a tradition, the reappointment of a Fed chair occurs sometimes, at other times, not.
As far as central bank independence is concerned, it is certainly true that the presidential abuse of central banking powers for narrow political goals, such as being reelected, or supporting personal real estate investing goals, is a potential recipe for disaster. The solution to this problem is to not elect such people to be president.
But no central bank can or should be “independent” from political influence in a democracy. The Federal Reserve’s governing laws, as amended during the 1930s, make it a creature of Congress with its structure also being influenced by the U.S. president’s appointment powers. These laws were created to make sure that the Federal Reserve is responsive to the needs of the overall economy, as interpreted by our elected officials, and not disproportionately influenced by the Fed’s natural constituency: Wall Street. And the pressures to cater to Wall Street — because of the close ties between the Fed and the financial markets, the natural revolving-door tendencies of regulatory agencies and, most importantly, the desire by Federal Reserve officials to cultivate a powerful political constituency to help it maintain its autonomy from governmental authority — are extremely strong.
As a result, central banks that are independent from their political authorities tend to be highly dependent on private banks and other financial institutions. In this way, it is too easy to get Federal Reserve policy that is lax toward the financial institutions they are supposed to be regulating while they engage in highly risky, speculative and dangerous activities, and then turn around and bail them out when they get in trouble.
So for progressives and others to trot out this shibboleth of “central bank independence” in defense of reappointing Jerome Powell is troubling, given the implications for more Wall Street control of the Fed.
To be sure, the possible presidential abuse of the Federal Reserve System would be problematic. But for the president to exercise his or her legally authorized influence on the choice of the Federal Reserve’s priorities, at a time of great economic transition and need, is simply an act of exercising one of the key channels of democratic, public input into these important policies. The Federal Reserve’s amended laws authorized more presidential control as part of an attempt to try to reduce the destructive powers of Wall Street on the Fed. (Congress, of course, is the other key democratic channel of influence).
Given the serious destructive power that financial deregulation has had on both the economic and political power of the megabanks and their capacity to destabilize our economy, Jerome Powell’s poor record of upholding strict financial regulatory rules is a serious concern, even if his expansionary monetary policies and apparent commitment to full employment is important.
No Need to Choose Between Commitment to Full Employment and Financial Stability
The important point is that we do not have to choose between desirable goals of monetary policy; there is no necessary trade-off. There are other strong candidates for Fed chair: for example, Federal Reserve Governor Lael Brainard, who has a strong commitment both to full employment monetary policy and to strong financial regulation.
The problems with reappointing a Fed chair who is not committed to strong financial regulation are not the end of the story. What about the other big challenges we face that President Biden has high up on his agenda? Improving the access of communities of color to good jobs and to fight systemic racism are a strong priority of President Biden and the Democrats. Jerome Powell and the Fed’s new strategy for prioritizing full employment and allowing temporary over-shooting of their inflation target in order to generate more employment opportunities for those typically at the back of the employment line is a good step in the right direction. But a financial crisis caused by lax regulations and enforcement could easily derail this policy by crunching the economy and labor market.
In addition, there are serious concerns about Powell’s commitment to using the Fed’s tools to combat the climate crisis. Powell’s Fed has been reluctant to limit banks’ lending to fossil fuel companies, even though this increases risks to banks, given the likely constraints to be placed by governments on fossil fuel production in the near future. Nor has Powell made a commitment to using the power of Fed asset buying and lending to help finance green energy, as envisaged, for example, in the Green New Deal policies.
These policies would, to be sure, be highly controversial. Some Republican lawmakers, such as Pennsylvania’s Pat Toomey, are already pushing back hard on the idea that the Fed should promote climate friendly policies. But that is all the more reason why it is necessary to have a Fed chair and other Federal Reserve board members who will be aggressive and fearless in pushing these policies.
Thankfully, Biden has the chance to change significantly the orientation of the Fed board. Not only is the position of the Federal Reserve chair open, Biden will also have the opportunity to appoint a Federal Reserve vice chair and the Fed governor who is the point person on financial regulation. Experienced progressives, such as former Fed Reserve board governor Sarah Bloom Raskin, a firm advocate of strong financial regulation; William Spriggs, professor of economics at Howard University and chief economist at the AFL-CIO who is an expert on labor markets, including labor issues related to workers of color; or my colleague Robert N. Pollin of the University of Massachusetts Amherst, an authority on finance and the job creation impacts of Green investments would be ideal candidates for these positions.
Still, Biden is being urged by some moderates and even progressives to offer a “balanced ticket,” to satisfy all elements of his constituency, a ticket that would include retaining Jerome Powell as chair.
This would be a mistake. The Fed will either be a significant, powerful and leading institution that helps to implement Biden’s transformational agenda, or it will be lagging behind and even dragging the agenda back. It is time for Biden to be bold and to create a Federal Reserve to match his crucial economic agenda. He should seize the opportunity while available.