Update 489 – A Barber on the Board:
Get Ready; Less Steady Fed Ahead?
After months of inaction on Trump’s nomination of Judy Shelton to the Board of the Fed, Senate Majority Leader Mitch McConnell is rushing this one with days ticking down before Senator-elect Mark Kelly can be sworn in. Shelton’s nomination as a national priority compared to, say, COVID relief, is ridiculed in a comment by Sen. Wyden’s equating her being in charge of the dollar to putting a “medieval barber in charge of the CDC.”
Yesterday’s Senate cloture vote on Shelton’s nomination failed 47-50 A final vote would be the first Fed confirmation vote during a presidential lame-duck in Senate history. If confirmed, she along with the other Trump nominee Christopher Waller, would mean six of the seven Board members will have been picked by Trump.
What implications would this have for the Fed, Fed policy, and the incoming administration?
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The Balance of the Board
President Trump nominated Christopher Waller and Judy Shelton to the Federal Reserve Board of Governors in January. The Board is currently composed of four Republicans and one Democrat, Lael Brainard. If the Senate confirms both of Trump’s picks, he will have chosen six of the seven members with no scheduled vacancies until 2022 when Vice Chair Richard Clarida’s term ends. At the Fed, personnel is policy. But without the opportunity for Biden to place his stamp on the Board, the Biden administration will struggle to address financial regulation.
Judy Shelton’s nomination agitated both Democrats and Republicans wary of her policy views. During her nomination hearing, numerous Republican Senators expressed concerns over her views on the gold standard (for) and central bank independence (against), leaving her confirmation uncertain. McConnell felt he had the votes to push her nomination through, but yesterday’s cloture vote failed 47-50 (with McConnell voting ‘no’ to preserve the option for reconsideration later).
McConnell needs all 50 ‘yes’ Senators to be in attendance to confirm Shelton. Sens. Young and Scott (FL) are currently in quarantine, Sen Grassley is sick with COVID, and once Senator-elect Mark Kelly replaces Sen. McSally on November 30, McConnell’s window of opportunity to confirm Shelton may vanish.
In 2017, Trump chose not to renew then-Chair Janet Yellen and nominated Jerome Powell to take her place. Powell has been a steady hand at the Fed, unshaken by Trump’s vocal opposition to his and the Board’s decisions. Powell’s term as chair is set to end in 2022. Biden could nominate Powell for a second term as Chair — a decision likely to play well with Republicans.
Dollar Policy Implications
Biden plans to reinvigorate the Federal Reserve’s independence. Trump has sought to juice the economy to boost his chances of re-election, first with corporate tax cuts and then by keeping interest rates as low as possible. When Fed Chair Powell allowed market conditions to dictate interest rates, Trump lambasted him on Twitter and urged his resignation.
In the context of the ongoing pandemic and ensuing economic fallout (especially if fiscal relief efforts are inadequate or stymied by political gridlock), Biden’s Fed will adopt a similar monetary policy to that of the last four years. The federal funds rate will remain within the 0-0.25 percent target range until maximum employment is achieved and inflation is set to exceed 2 percent — both of which are not likely to occur before the 2022 midterms. These are moving targets; absent much-needed fiscal relief, the Biden Administration may have to lean hard on the Fed’s monetary lever. Not ideal.
When the history is written on the Biden and Federal Reserve policy, much will depend on how Powell and other Fed Board Governors interpret their mandate of maximum employment. In an August 27 symposium, Powell suggested that such a mandate is a “broad-based and inclusive goal,” indicating that the Fed will look beyond the top-line unemployment rate and seek to ensure “a strong labor market, particularly for many in low- and moderate-income communities.” Such a change — if meaningfully pursued — would be a welcome development in a post-COVID recovery.
Prime Areas for Change
While monetary policy will likely remain fixed, Biden will likely seek to reform banking regulation and the emergency lending facilities:
- Supervisory Regulation: Under Trump, Republicans undid much of the banking regulations imposed by Dodd-Frank. Randal Quarles, the Federal Reserve Vice Chair of Supervision, led the charge, easing liquidity and capital rules for the largest U.S. banks. Quarles’s term ends in October 2021. Replacing him with a more responsible regulator is imperative for Biden to right-size banking regulation during his term.
The incoming Biden administration will certainly seek to strengthen the Volcker Rule and restore liquidity requirements for the largest banks. The Fed could also apply a stricter review of proposed mergers and acquisitions involving banks. But even with Quarles replaced as Vice Chair of Supervision, Biden will have a challenge pursuing regulatory change with a Fed board stacked with Trump-appointees. Fed Governor Lael Brainard is often the sole voice defending the Dodd-Frank regulatory regime.
- The Credit Facilities: When financial markets convulsed in March, the Fed launched a barrage of emergency lending programs that likely saved the financial system from collapse. The programs largely serve as market backstops facilities, with two exceptions: the Main Street Lending Program (MSLP) and Municipal Lending Facility (MLF). To date, the performance of the MSLP and MLF have been inadequate, but the Biden administration will aim to reform these programs, subject to negotiations with the Fed.
The 13(3) emergency lending facilities are set to expire on December 31, and the Fed and Treasury must decide whether they will extend many of these programs. Choosing to extend and later reform the programs will require Treasury’s approval and at least five votes or a quorum of Fed Board Governors. While Powell says he would like to extend the facilities for another three months, the Trump Administration’s Treasury Department announced its opposition to extending at least one facility — the Municipal Liquidity Facility. Sen. Pat Toomey, the expected Senate Banking Committee Chair, favors allowing the programs to expire altogether.
Sunsetting these facilities without fiscal relief withdraws an important backstop to financial markets and a lifeline (though imperfect) to businesses and states amid a spike in coronavirus infections.
Fed and Treasury Will Need to Agree
With Shelton’s nomination looking less feasible by the day, it is seeming more and more possible Biden will have at least one Federal Reserve Board pick when entering office. Biden may have a second if Lael Brainard joins the administration. But the president-elect ought to remember that while monetary policy may have changed since he last walked the halls of power, politics has not.
Changing leadership could give the Fed an opportunity to adjust its message and tactics, but politics will likely hinder any significant adjustments. In all likelihood, any Biden nominee will need bipartisan support. The critical relationship between Treasury and the Fed points to keeping the Fed intact under Powell and considering a Treasury Secretary who has worked well with the current Chair.