President Trump is ramping up his campaign for lower interest rates. It is a high-risk and potentially self-defeating effort.
For months, Mr. Trump has called for the Federal Reserve to ease monetary policy, to which he’s added calls for its chair, Jerome Powell, to resign. In recent days, the administration appears to have opened a dangerously novel front, even if it is potentially legal: building a case to fire a Fed chair for cause.
The risk of allowing the central bank to be perceived as a political tool is depressingly obvious, illustrated by even a cursory review of similar efforts overseas. Even if the American economy and financial markets are strong enough to moderate the impact of the Fed’s tarnished reputation, the directional response seems clear: higher long-term borrowing costs for households and businesses and a weaker currency that would support inflation.
Let’s look at Hungary and Turkey. Leaders of both countries, faced with budget deficits, inflation pressures and a desire to increase growth (sound familiar?) have broken institutional standards and changed laws to ensure that their central banks support the government’s political aims. That has usually led to lower interest rates aimed at speeding up the economy.
In Hungary’s case, the central bank was made independent in 1991, but the government over the past 15 years or so has repeatedly tried to influence monetary policy decisions. It has stacked the deck by increasing the number of monetary policy council voters. After a 2011 change to the Constitution that weakened the bank’s independence, all three major ratings agencies downgraded Hungary’s sovereign credit rating to junk, pushing borrowing costs higher and causing its currency, the forint, to fall.
Government efforts to control the bank continued anyway, most recently through legislation introduced this year by Prime Minister Viktor Orban’s Fidesz party, which would expand the council further, to 11 from nine, including another deputy governor to be selected by Mr. Orban.
Not surprisingly, Hungary’s currency has been weakening against the euro since 2011, more so than other regional currencies, such as those of Poland and the Czech Republic. That weakness has contributed to Hungarian inflation, which has been higher on average than these peers. Indeed, Hungary’s inflation problem, worsened by Russia’s invasion of Ukraine, forced the central bank to sharply tighten monetary policy, contributing to a 2023 recession and only 0.6 percent gross domestic product growth last year.
Turkey’s central bank politicization has been even more extreme, with equally more significant financial market results. With inflation running at more than 15 percent (the country’s target is 5 percent), President Recep Tayyip Erdogan in 2018 issued a decree asserting his authority to appoint the central bank governor, deputy governors and monetary policy committee members, as well as to abolish experience requirements. That decision led both S&P Global Ratings and Moody’s to lower their sovereign credit ratings for the country.
Less than a year later, Mr. Erdogan fired the central bank’s governor (who had kept rates high to slow inflation) and selected his replacement. Over the next few years, he continued to fire and replace governors and deputy governors.
Not much good came from lower interest rates. Since the 2018 election, the Turkish lira has lost 88 percent of its value against the dollar, according to Bloomberg data. Only the Argentine peso fared worse among emerging currencies during that period.
The central bank’s rate cuts and the weaker currency pushed up consumer price inflation, which peaked at an annual rate of more than 85 percent in 2022 and forced a sharp cycle of rate increases. Just for comparison, the worst ever inflation in the United States since World War II was 18.1 percent in 1946 and 13.3 percent in 1979. Inflation in Turkey today is still running around 35 percent, and the central bank has set interest rates at 46 percent. Turkey’s 10-year government bond yields have risen from 11 percent in early 2018 to nearly 30 percent today. One of the few benefits of the devalued lira has been tourists able to take advantage of the weak exchange rate.
With these and other examples of economic mismanagement, why on earth would the Trump administration try to follow suit?
Based on the president’s July 9 social-media post, one reason seems to be the cost of financing America’s budget deficits, which are set to grow further in the wake of the domestic policy bill Mr. Trump recently signed into law. In the most recent fiscal year, interest payments on the U.S. national debt were greater than defense spending. Over the coming decade, the Peter G. Peterson Foundation estimates interest payments will reach $1.8 trillion, more than projected spending on Medicare.
The administration would also like lower rates to help support a policy goal of increasing exports — a weaker dollar would make them more competitive. Mr. Trump might also have in mind that lower interest rates could provide support to housing and stock markets. In Turkey’s case, domestic equities performed well, and especially well since 2021, despite central bank turmoil, partly because Turkish investors saw equities as a relatively better store of wealth than local bonds.
That’s probably the best-case scenario. It is far from guaranteed Mr. Trump will get lower interest rates even if he gets to pick a new Fed chair. Mr. Trump’s nominee would need Senate approval, and that’s assuming he can win what could be a messy fight over the legality of any move against Mr. Powell. Further, a rate change would require a majority of the 12 voting Fed officials to agree. Currently only two, both Trump appointees, have publicly suggested that lower rates might be justified in the coming months.
Indeed, the only guaranteed path for Mr. Trump to get lower interest rates is slower inflation or a weaker job market. Right now, the Fed’s preferred inflation gauge is running closer to 3 percent, still higher than its 2 percent target.
Even if the Fed lowers rates, that won’t mean U.S. government bond yields will fall. Hungary and Turkey both saw longer-term government bond yields rise after short-term interest rates were cut. This was partly because investors demanded a bigger return for lending the government money for the long term, to offset both inflation and political risks.
Indeed, in the United States, those kinds of investor demands can already be seen in the 10-year Treasury bond yields, which rose at the same time the Fed was cutting rates. That’s keeping costs high for financing on consumer mortgages and auto loans.
A continued march toward a less-independent Fed could ignite concerns beyond U.S. borders. It’s not hard to imagine that Mr. Trump might view Fed “swap lines” — agreements used by the central bank to provide dollar liquidity to its overseas peers in times of stress — as a negotiating tool like tariffs.
There is a reason both Republican and Democratic presidents in recent decades have publicly supported central bank independence. They have agreed on financial accountability and rule of law. They have also understood that even if the Fed makes mistakes, acting independently of politics supports its credibility, and that helps make the United States a more reliable, more attractive place to invest. Without that stability and predictability, the nation is in danger of losing what makes its economy and financial markets exceptional.
Rebecca Patterson is an economist and senior fellow at the Council on Foreign Relations who has held senior positions at JPMorgan Chase and Bridgewater Associates.
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