8th November 2016

Taking a look at US interest rates under a new President

Our partners at TD Ameritrade have taken a closer look at the role the President plays in establishing interest rates. Take a look at the full article below.

Can the President Influence the Fed Interest Rates?

A presidential candidate criticises the Federal Reserve, saying its conservative interest rate policies hurt his election chances and favor his opponent. No, we’re not talking about Donald Trump. The candidate was President George H.W. Bush, who lost the 1992 presidential election to Bill Clinton. A few years after the election, in an interview with The Wall Street Journal, Bush blamed Fed Chair Alan Greenspan in part for his loss, saying that if Greenspan had cut interest rates "more dramatically” in the months preceding the election, the fledgling economic recovery would have been more "visible” to voters, improving Bush’s chances of reelection.

"I think if the interest rates had been lowered more dramatically that I would have been reelected president,” Bush told the newspaper. "I reappointed [Greenspan], and he disappointed me.”

The 1992 election offers something of an object lesson for anyone trying to figure out how much influence a given president has on the Fed. The answer? Not much.

In 1992, Bush seemed to believe that Greenspan and the Fed owed him something because he reappointed Greenspan, but the Fed didn’t see it that way. Greenspan and other Fed officials followed their own collective muse, deciding it wasn’t time yet to lower interest rates as dramatically as Bush may have wanted to help pump up the economy. Party affiliation didn’t seem to matter. Greenspan, a Republican who was appointed by a Republican, directed Fed policy in a way that Bush and other Republicans criticized.

During his campaign, Republican nominee Trump criticized the Fed, calling it a political body and questioning the strategy of Fed Chair Janet Yellen, whose low rate policy amid negative rates in some non-U.S. markets he claims favors Hillary Clinton, his opponent. He’s even said he would appoint a new Fed chair if elected. That would be unusual, because Fed chairs normally continue on even when new presidents from the opposing party take office. Democrat Bill Clinton kept Republican appointee Greenspan throughout Clinton’s two terms, for instance.

Appointing a new Fed chair and Fed governors (as terms expire for existing governors) is one way a president can influence rate policy, but that’s about it. Once the Fed team is in place, the president may find himself or herself seething, as George Bush did. That’s why this year’s election, no matter which candidate wins, may not have a huge impact on Fed policy going forward.

President Constrained in Effect on Fed

"The situation isn’t like the cabinet, where a new president comes in and cleans it up and puts in his own people,” said Shawn Cruz, trader content specialist at TD Ameritrade. "The president gets to nominate seven members to sit on the board in addition to the chair and vice chair of the board, but that’s still subject to approval by the U.S. Senate, and even then you have local regional governors setting policy as well. That’s one thing to think about when people talk about politicization of Fed policy.”

The seven Fed board members serve 14-year terms, so they typically remain in office through more than one U.S. president. It’s worth noting that the chair and vice chair serve only four-year terms and are selected from existing board members.

And unlike presidential elections, in which "maverick” candidates sometimes find paths to a nomination, it’s quite unlikely that an unconventional type would ever make it to the highest levels of the Federal Reserve, disrupting established policies. That’s true even if the U.S. president is something of a renegade. The system, especially the congressional oversight part, works against that.

"There’s not a lot of precedent for huge shake-ups,” said David Settle, curriculum development manager at Investools®, the education affiliate of TD Ameritrade. "It’s not like outsiders come into the Fed; there’s not a lot of precedent for that. They usually come from that circle of bankers.”

The election is tomorrow, and interest rates began creeping up in the weeks heading into the vote. This was partly a reflection of growing belief that a rate hike might be coming, and might also reflect volatility associated with the election. But this year may also have special significance because Trump is a self-proclaimed unconventional candidate who has vowed to make changes at the Fed if elected.

Will This Election Affect Fed Policy?

What would happen to Fed policy if Trump defied the polls and won the presidency? Would he turn things 180 degrees, or even have the ability to do that?

"There’s a lot of rhetoric, but not a lot of precedent, for huge shake-ups and outsiders to come in,” Settle said. "But Trump would have to get his appointments approved by Congress, and he’s also fighting against his own party. He’d be under pressure to maintain the status quo."

Cruz added, "The Fed will do what it’s instructed to do by Congress, which is to generate maximum employment, price stability, and moderate long-term interest rates. There’s plenty of oversight from Congress. Trump can nominate who he wants, but ultimately a committee in Congress can temper that from moving too far in one direction or another.”

If Clinton wins the election, Settle said he expects little or no change in Fed policy.

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