For decades, the Federal Reserve has managed America’s interest rates free from the kind of political pressure that can ramp up inflation and drive economies into a recession. That successful run could come to an abrupt end if President Trump successfully ousts Lisa Cook, a Fed governor.
The reason lies in a little-known loophole buried in the Fed’s machinery that could allow our central bank’s independence to be eviscerated virtually overnight. That loophole is opening in less than six months.
Created in 1913, the Fed was designed to be independent and diffuse. It has the power to create money, and its governors serve 14-year terms. To resist any consolidation of power, the Fed is divided between a politically appointed seven-member Board of Governors in Washington and 12 regional reserve banks spread throughout the country. Historically, this diffusion of power, combined with the institution’s independence, has made it difficult for presidents to control the Fed — and sometimes, one must admit, for the Fed to govern itself.
But this setup has a vulnerability. Every five years, all of the 12 regional bank presidents are reappointed by the board in Washington. In theory, this allows the board some oversight if, say, a bank president goes rogue. In practice, these reappointments have become formalities. No regional president has ever lost his or her job during the reappointment process, even when a bank president was under investigation by the F.B.I. and the Justice Department after breaking the Fed’s confidentiality rules and failing to disclose it. To call these reappointments pro forma is an understatement.
Such precedent is meaningless to Mr. Trump. Two of the seven governors are Trump appointees auditioning for promotion to be Chair, while his latest nominee plans to continue to keep his White House job as Trump’s chief economist while serving on the Fed, shattering precedent for Fed independence. If Mr. Trump fires Ms. Cook and replaces her with one of his loyalists, the resulting board — potentially a Trump-loyal majority — could refuse to approve the appointment of any or all 12 regional bank presidents. These jobs could then be filled by individuals based on their fealty to the president.
This looming opportunity surely has not been lost on Mr. Trump, who recently said, “we’ll have a majority very shortly,” referring to the Fed’s Board of Governors. His White House is already seemingly eyeing this vulnerability as a way to ensure that his people are appointed to run the Fed’s regional banks, leading to what some economists and investment analysts are calling a “break the glass” moment. Mr. Trump could have near-total control of monetary policy and much more without needing to wait until Jerome Powell’s term as Fed chair ends in May.
For a view as to what could happen next, look at Hungary and Turkey. Both countries had authoritarian leaders wrest control over their central banks over the past decade. Turkey’s inflation shot to over 80 percent, while Hungary’s crested over 15 percent and its economy has been in and out of recession. Mr. Trump frequently praises Hungary’s prime minister, Viktor Orban, ignoring the serious inflationary problems created by his control over Hungary’s central bank.
Closer to home, the Fed caved to political pressure when President Richard Nixon successfully bullied the chairman at the time, Arthur Burns, to lower interest rates to help his re-election bid in 1972. The result was years of inflation until Paul Volcker as Fed chairman finally stamped it out — at a cost of interest rates of around 20 percent and a sharp recession in the early 1980s — and restored the Fed’s independence.
Ms. Cook has bravely challenged Mr. Trump’s effort to fire her, fighting to remain in her role as the courts decide whether the president has the authority to remove her. The debate over the power to remove appointed officials is as old as America itself. In recent years, the Supreme Court upended precedent by eroding bipartisan laws I helped write to create strong independent financial regulators for our housing and consumer finance systems, thus effectively turning both agencies into arms of the White House. These court rulings make the Fed vulnerable, although the court’s majority has recently said that the Fed’s independence warrants protection.
The Fed regional banks can also fight a Trump takeover, as they have their own leadership who appoint bank presidents, but the final authority to approve a regional bank president rests with the Board of Governors. A committed majority of the Fed board in Washington can effectively oust regional bank presidents and eventually install presidents to their liking.
I am a Fed critic — not an apologist. The Fed has grown too powerful and become unaccountable, and it damaged its credibility by sweeping multiple scandals under the rug. I have complained when the Fed abused its power and argued the Fed should no longer be in charge of regulating America’s banks.
The Federal Reserve has more power over our economy than any other entity in the federal government. It sets interest rates (often at the wrong level). It regulates our banks (often failing to catch problems). It operates large payment systems (which are among the slowest in the developed world, harming working families). The Fed has the authority to make loans to banks and groups of companies across the country, based on its own judgment, with very few legal guardrails and almost no checks and balances.
That is precisely why I find the fight over Lisa Cook so alarming. The idea that an entity as powerful as the Fed could become an arm of the current president — or frankly, any president — is terrifying. The Fed has the power to bail out our corporations. Imagine what it could do to please a president who is issuing his own cryptocurrency — a notoriously unstable asset.
While this case winds through courts, Congress has a chance to act. It can refuse to confirm Mr. Trump’s nominee for the existing vacancy and any replacement to Ms. Cook’s seat. It can enact bipartisan structural reform to clean up the Fed the right way. Checks and balances only work if they are used.
If the Republican majority in the Senate simply rubber-stamps Mr. Trump’s actions, it will be putting an end date on the life of America’s independent central bank. Doing so will grant Mr. Trump a blank check of economic power and open a Pandora’s box of potential problems.
Aaron Klein is a senior fellow at the Brookings Institution.
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