Throughout my career as a macroeconomics professor (now 32 years since my PhD), I have been dismayed by the lack of understanding that it is the Fed, not the President of the United States or Congress that should be blamed and praised for recessions and recoveries. Occasionally, the Fed doesn’t do its job well, and actions of the President of the United States and Congress can help, as when Barack Obama got through congress a stimulus bill during the Great Recession. And, of course, the Fed’s existence, independence and some aspects of its toolkit depend on Congressional authorization. But as long as the Fed is given the power it needs to tame the business cycle (see “How and Why to Eliminate the Zero Lower Bound: A Reader’s Guide”), it is the Fed that should be held accountable for the business cycle.
There are three big problems with what until very recently was the political reality that the President faced the electoral consequences of the business cycle, even though dealing with the business cycle is the Fed’s responsibility (a responsibility for which it has been given great power and independence).
First, inappropriately given the President of the United States credit or blame for the business cycle diverts attention from judging how a president is doing in dealing with long-run economic issues, foreign-policy issues, cultural issues and in setting a good example of personal behavior for the nation.
Second, even if people also paid attention to all those other dimensions of presidential performance, giving the president credit or blame for the current state of the business cycle adds a lot of random noise to evaluations of the president.
Third, giving credit or blame to the president makes it too easy for the Fed to duck responsibility. It pains me to hear the Fed or any central bank call for fiscal stimulus as a way to duck responsibility for cutting interest rates as much as necessary to stabilize the economy. I recognize that needed interest rate cuts, like needed interest rate hikes, often subject the Fed and other central banks to a lot of criticism. But just as you shouldn’t accept an appointment to the Federal Reserve Board or to be President of one of the regional Federal Reserve Banks if you can’t stand the heat that comes from raising interest rates if necessary to head off excessive inflation, you shouldn’t accept an appointment to the Federal Reserve Board or to be President of one of the regional Federal Reserve Banks if you can’t stand the heat that comes from cutting interest rates—even to negative rates if necessary—if that is what is required to get speedy economic recovery.
There is now hope—from an unexpected source—that the American public will begin to understand that it is the Fed, not the President or Congress, that is responsible for the business cycle. Donald Trump’s frequent criticism of the Fed, while often misguided, does put responsibility for the business cycle in the Fed’s lap. Of course, Donald Trump is not 100% consistent in this. If the business cycle situation looks good, he wants to take credit; if the business cycle situation looks bad, he wants to shift the blame to the Fed. Overall, however, Donald Trump has been more vocal in shifting the onus of managing the business cycle from the President of the United States to the Fed than any other president since the founding of the Fed.
As I have emphasized many times, monetary policy is limited in its power. It can tame the business cycle. But it can’t do much about long-run economic growth or the long-run interest rate, let alone solve all the many problems we face—such as the rise in obesity or nuclear proliferation—that don’t show up directly in GDP.
Even to tame the business cycle, the Fed does need support from the president and Congress.
First, the Fed needs an extensive toolkit that includes being able to use negative rates and to modify paper currency policy as necessary to accommodate negative rates. (Again, see “How and Why to Eliminate the Zero Lower Bound: A Reader’s Guide.”) It is an interesting and nonobvious legal question (which I am teaming up with a law professor to try to answer) if the Fed already has this power or not. If it does already have the power to use negative rates and modify paper currency policy, then support for the Fed’s ability to tame the business cycle would involve not passing legislation to take that power away.
Second, the Fed needs appointees who understand how to use interest rates to tame the business cycle. Here, Donald Trump falls short. He has made some good nominations for the Fed, but quite a few bad suggestions of people to nominate for the Fed (some only as trial balloons without a formal nomination). Fortunately, there is hope that the Senate will do its job of putting a reasonably high floor under the quality of appointments to the Fed.
Although monetary policy could be greatly improved compared to current practice—see “Next Generation Monetary Policy”—it is my view that it has, indeed, improved over time. In that view, I include the 2008-2016 period in which monetary policy outcomes were quite bad, but the Fed and other central banks were innovating rapidly under trying circumstances.
The bar is higher for the future, however. The Fed, like other central banks, now has a playbook for getting as much monetary stimulus as necessary in any future recession in three papers I have been involved in, plus related papers by others. Here are my three:
We do the Fed and other central banks no favors by ever letting them off the hook for their job of keeping inflation steady at a carefully chosen target rate and keeping output and employment at the natural level. We deserve courage and excellence in monetary policy. Everyone who has a hand in monetary policy decision-making should feel that responsibility keenly. They are collectively blameworthy if they don’t deliver (though individuals involved in that decision-making who were overruled might in some cases be heroes even if collectively monetary policy makers failed us).