‘Like It Or Not, The Heyday Of Central Bank Independence Is Behind Us’: Pimco

Get used to it.

That’s the message from PIMCO’s Joachim Fels when it comes to the erosion of independent monetary policymaking.

“The heyday of central bank independence now lies behind us”, he wrote, in a note to clients. Fels’s fatalistic outlook is set against a backdrop of daily attacks on the Fed and a high-profile move against (former) Turkish central bank chief Murat Cetinkaya.

When Turkey’s Erdogan ousted Cetinkaya on Saturday, it wasn’t exactly a surprise. Erdogan is, after all, a man who encroaches on monetary policy at every turn and his “unorthodox” (to put it mildly) views on rates and inflation are legendary. But the nexus between Erdogan’s ongoing efforts to commandeer CBT and Donald Trump’s incessant berating of the Fed can’t be ignored.

Last year, at a NATO gathering in Brussels, an irritated Trump lamented that when he pressed allies to spend more on defense, “Many of them said, ‘Well, we have to ask our parliaments. We have a process; we can’t just tell you we’re going to spend more, we have a legal process.'” Trump then turned to Erdogan. “Except for Erdogan over here. He does things the right way”, Trump said. Then he fist-bumped the Turkish autocrat.

When it comes to monetary policy, “the right way” for autocrats is almost always an accommodative bent. That’s conducive to deliberately overheating the domestic economy, which, unless inflation runs out of control, plays well with voters. In many cases, autocrats will throw caution to the wind, lining up fiscal stimulus and rate cuts, a potentially combustible pro-cyclical brew. Independent central banks are averse to this to the extent it risks running the economy “too” hot, but for politicians (and especially overbearing politicians) there is no such thing as “too” hot.

In an era where strongmen and populism are ascendant, you can expect central banks to become increasingly beholden. “Like it or not, get used to the new normal of dependent central banks, perpetually low interest rates and quantitative easing”, PIMCO’s Fels wrote, in the same note.

It is now impossible to catalogue all of the times Trump has taken aim at the Powell Fed. So obsessed with Fed policy is Trump, that the president was tweeting about the central bank a half hour before midnight on Friday. “Our most difficult problem is not our competitors, it is the Federal Reserve!”, he shrieked.

When it comes to rate cuts and QE, no country can afford to be an island – especially in the developed world. All else equal, easier monetary policy can lead to currency weakness and, on the flipside, a loss of export competitiveness for other countries, which must then “match” (to employ Trump’s childlike vernacular).

PIMCO’s Fels argues that while the natural reaction to this in the US would be a weaker dollar and a selloff at the long-end (on inflation worries), the expectation of central bank bond buying in perpetuity will likely keep the curve from bear steepening explosively, while easing by other central banks may keep dollar weakness in check.

Whether or not central banks can avoid losing control of the long-end in an environment of never-ending easing depends to a large extent on whether politicians aggressively deploy fiscal stimulus alongside expansionary monetary policy. Fels thinks they may not. I’m not so sure. What rate of growth would be “enough” for a Trump or for an Erdogan? Or, if you want to look at it from the other end of the spectrum in the US, at what point would a progressive president be “satisfied” that the government has spent enough to decrease inequality and provide employment and financial benefits for everyone?

The answer to those questions is obviously “no amount” and “never”. That means the temptation will always be there to roll out more and more fiscal stimulus, especially when you know the central bank will buy any associated debt issuance.

Fels also reiterated what is by now a familiar refrain: Publicly pressuring the Fed puts Powell in a no-win situation. If the Fed cuts rates to support the expansion at a time of rampant uncertainty, he opens the institution up to charges of political bias. If the Fed doesn’t cut rates in an effort to assert its independence, monetary policy isn’t being allowed to operate in a way that’s conducive to sustaining economic momentum, precisely the opposite of what Trump intends to accomplish with his attacks. Former vice chair Stanley Fischer recently suggested that the December hike might not have happened were it not for Trump’s badgering.

It’s also worth noting that the rise of authoritarianism and populism in Europe could end up forcing the ECB to deliberately politicize itself in order to keep the monetary union together. For instance, Christine Lagarde is set to take the reins from Draghi. The fact that she’s more politician than economist is probably not an accident. The political landscape in Europe is more fraught than ever. Although the worst-case outcome (defined here as a populist/euroskeptic wave) was averted in the EU elections, League’s performance in Italy and Rassemblement National’s showing in France underscored the lingering appeal of nationalism and suggested centrists have failed to stem the populist tide that swept across the bloc in 2015 during the migrant crisis. In Lagarde, the ECB will get a seasoned political operator and something of a consensus builder. That may prove especially useful going forward in the event the eurozone economy careens into a downturn, raising the stakes in contentious relationships between, for instance, Rome and Brussels.

All of this was, of course, entirely predictable. Some readers scoffed at my insistence, in February of 2018, that Trump would end up acting and sounding just like Erdogan if the Fed persisted in hiking rates after Powell took over.

With that in mind, I’ll leave you to once again ponder the following classic passages from what can now fairly be described as a laughably prescient Dealbreaker article published just after Yellen passed the torch to Trump’s Fed pick:

I don’t think everyone fully appreciates how soon-to-be precarious this is going to get for Powell. Just imagine for a second that Trump’s myopic tax cuts and stimulus end up getting him the economic sugar high he’s after and just as he’s shrieking about it at a rally, the Fed hikes rates citing an overheating economy. Trump would go crazy. He would never let that stand. He’s going to turn into Erdogan when it comes to rates.

Read the following quotes from a speech Erdogan made back in November [2017] when inflation was spiraling out of control in Turkey and the lira was plunging:

They say central banks are independent so we shouldn’t interfere. This is the end result because we haven’t interfered. We will solve this, things can’t go on like this.

Who does that sound like? I mean besides Erdogan.

If you read the accompanying color from Bloomberg it’s even easier to imagine Trump going this route if Powell gets too aggressive. To wit:

Erdogan [is] vowing to step up a fight against what he calls the “interest rate lobby,” an alleged cabal of financiers and lobbyists that he says is conspiring to keep Turkey’s interest rates artificially high.

It’s almost too perfect a parallel. Before you know it, “the swamp” and the “American deep state” will include the Fed governors.

Anyway, don’t say I didn’t warn you. But also, don’t forget to laugh when it starts because the silver lining will be that the tweets and the anti-Fed campaign rallies will be nothing short of hysterical.


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15 thoughts on “‘Like It Or Not, The Heyday Of Central Bank Independence Is Behind Us’: Pimco

  1. Over-reaction. Both in the sense of the degree to which the Fed has been “politically independent” –Volcker was the only truly independent Fed Chair. Second, DJT is not suddenly taking over the Fed. If he had been able to confirm Moore and Cain then we need to be worried. Shelton may not be confirmed. Waller is a “secular stagnation” guy whom Hillary Clinton could have easily nominated. Powell bashing is mostly political posturing in case the economy sours. Trumps base personifies. Powell is being cast as the villain who is trying to keep our Supreme Leader from doing us all the good he would like us to do. And if things go bad, it becomes an argument for investing the Supreme Leader with more power.

    1. I agree that Trump’s outbursts are political posturing, but his recent nominations of people who have publicly supported him show the dangers. What Trump and others overlook in his attacks on Powell is that the FOMC decision is a majority one, not just Powell’s.

  2. The world’s problem has been one Central Bank following another with QE. NIRP, ZIRP, etc., NOT political pressure.

    They have created a bubble several times bigger than 2008.

    You would think the Central Bankers could think of their own bad ideas, rather tan copying one another.

    Powell can do what he wants…….probably shouldn’t ease this month……. he just needs the fortitude to do it.

  3. When you break a system down and destroy it’s ability to function as intended this is what you get… Currently there is an incestuous relationship between Business , Central Government , and Central Banks that by intent is not easy to understand …It appears they all pee in the same pot though ,… also by intent….The cure may well be a top down take down as opposed to a more sedate bottom up take down..as this whole problem has morphed into an International scheme..Political Science as H….would imply….

  4. With respect, the first two comments are both off base. There has never been this much interference in US monetary policy. People continue to underestimate Trump. And it will never stop. If he fires Powell, people will say “Ok, well, but at least he’ll leave if he loses in 2020”. And then, when he refuses to leave, people will say “Oh, well, at least he can only serve two terms”. And on and on. That’s you end up with an Erdogan.

    On the second comment, I’ll just say this again: if central banks hadn’t stepped in in 2008, there would have been a depression. you cannot have a situation where giant multinationals are unable to access liquidity, etc. we were on the verge of that in September 2008. it’s easy for everyone to look back on it now and say “oh, central banks have ruined the world”. would you have rather the ATMs gone dark and the shelves at Walmart to have gone bare? of course not.

    contrary to the narrative perpetuated by “alternative” finance sites run, in many cases, by people with no post-graduate education and “careers” that crashed and burned, PhD economists are not morons.

    1. Also, I would ask this hypothetical question: What would have happened if Trump had just said “No, Stephen Moore is on the Fed board now. Starting tomorrow.”?

      You’ll invariably say, “Well, he can’t do that.” But why not? The Supreme Court just said he couldn’t add the census question and he just flat out said he’s going to move ahead with trying to do it anyway.

      Did you guys/gals happen to read the emergency conference call between the judge and the DoJ attorney on the census thing?

      This is the craziest thing you’ll ever read: https://www.documentcloud.org/documents/6182391-July-3-2019-Transcript-of-Hearing-Before-U-S.html

      It underscores one important point: While everyone is probably correct to say that there would be a breaking point beyond which Congress and the courts would say “Enough”, but it’s not a guarantee. And he’s going to keep testing these institutions. The simple fact of the matter is that they have, at the very least, proven to be flimsier than anyone thought.

      1. H

        While some readers may feel you are overreacting when you lay out the “What happens if he does it anyway” question, there is no great answer. Who will enforce the law if Trump breaks it? No, really, who? He just put the army in his pocket, he’s in outright defiance of the Supreme Court (that has no army) and making a mockery of the Congress (with lots of help from the “distinguished” senior senator from Kentucky, good old Mitch boy). Trump once said he could step out on Fifth Avenue in NYC and shoot someone dead and no one could touch him. You all thought he was kidding.

        1. yeah, and I mean, bear in mind: i’m not trying to be an alarmist. i’m just asking a question that needs to be asked again and again because, so far, nobody appears to have an answer. everyone just keeps begging the question by referring to the same institutions that trump continues to run roughshod over when explaining who will keep him in check.

  5. As one who was running institutional portfolios in 2008 and watching the markets implode from the inside, I am convinced that if not for the Fed, Treasury, and White House/Congress emergency actions then, the US and world would have tumbled into a depression.

    Granted, those same entities were also largely responsible for the bubble that was then blowing up. But give them some credit for effective emergency measures in the crisis.

    In the following ten years, we’ve seen the Fed and other central banks forced to do “whatever it takes” to keep a febrile recovery going, because the fiscal and regulatory tools were being misused by the other branches of government. Monetary policy has its limits and we’re seeing them.

    This leaves the US woefully unprepared for the next recession. Interest rates are already very low. The federal deficit is already well over $1TR annually. The private sector’s debt load is very high. Consumers’ ability to withstand financial shock is still weak and social safety nets thinner than ever. The executive branch and agencies are headed by the least qualified persons I could imagine. Congress is riven with paralyzing divisions. Ugh.

  6. Little bit of reminisencing here. 2008 and first months of 2009 were the most frightening time of my professional life – and I was also on the institutional side in 1999/2000. Typical institutional product, required to be fully invested, we were working around the clock trying to survive. The quant shops were getting killed, we’d pull up their holding lists and screen for the most liquid holdings to identify the next blowups. Shops were being forced to sell anything they could still sell. As were we. During the XMas holiday in 2008 I was working late, morbidly researching valuations during the Great Depression. We realized that the one industry that was still comparable to then, retail, was trading at valuations below 1933 levels. Took two months to decide we weren’t going into a depression. In March 2009 we dumped all our defensive names and bought the lowest quality, most levered, most distressed stocks we could find. We only bought stuff that we figured was going to double in 6 months. F at $1 etc. We were a small cap fund but F was a small cap… 2009/2010 was then the most exciting period of my professional life.

    I don’t think we’re in for a repeat of that – but I didn’t expect 2008 to be as bad as it was either. Learned a lot of lessons then.

    But it’s been a decade. Lots of folks now in the investment biz started after that period and have never known anything but low vol uptrend dip-buying.

  7. Thank God for T.A.R.P., money printing, reflation, bailouts, free cash injections to banks, subsidized Wall Street bonuses, and the incentive structures put in to foreclose on homes.

    There were literally, and I am literally being literal here, precisely zero other policy options available at the time and otherwise we would have had to hunt feral cats for food.

    Not only were the policies wise at the time, they are wise in hindsight, and the T.E.A. Party movements, right-wing populism, debt and deficits, income inequality, asset inflation, suppressed wages, unaffordable housing, politicized Central Banks, ingrained moral hazards, larger totally stress-free banks, and current dystopian hellscape dominated by criminal, ever larger Wall Street enterprises prove it was all worth it.

    1. You can tell how awesome the current system is that eleven years later, despite a four trillion dollar Federal Reserve balance sheet, tax cuts, financial deregulation, capital injections, legalized fraud and money laundering, trillion dollar Federal deficits, flat wages, record high stock markets, historically low interest rates, and a growing domestic and global economy – we are a 0.25% rate increase away from a stock market crash, credit squeeze, and liquidity freeze. Just another eleven more years of accommodation…

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