Update 579 — Powell Reappointment Likely
But Progressive Fed Majority Could Follow
This morning, the Consumer Price Index showed a flattening in inflation rate gains. Overall CPI is up 0.5 percent in December with year-over-year inflation coming to 7.0 percent compared to November’s numbers of 6.8 percent year-over-year. In his renomination hearing yesterday, Fed Chair Powell pointed to supply chain snarls as the main culprit of inflation — a cause outside the Fed’s control. This and the flattening curve suggest the Fed will not undermine the recovery for the sake of inflation.
Powell’s was the first of five Federal Reserve nomination hearings expected early this year. Federal Reserve Vice Chair Lael Brainard is next up tomorrow. Brainard may face Republican opposition, but Democrats should provide unanimous support for her. In this update, we discuss what is next for Powell, the other Federal Reserve nominees, and the macro-impact of a 4-3 progressive majority at the Fed.
With inflation continuing to flatten as CPI fell from 0.8 percent month-over-month in November to 0.5 percent month-over-month in December, policymakers should not expect a significant difference in discussions of inflation. With the continuing mismatch between service sector wage growth and durable good price increases, as pointed out by blogger and aspiring economist Joseph Politano, we are avoiding a wage-price spiral that would signal a deeper crisis. As a result, these headline numbers should not cause alarm. Similar to last month, we still don’t have a grasp on the trajectory of inflation as it will require supply chain constraints to ease. And that will mostly come from taming the pandemic, an argument made even by Federal Reserve Chairman Jerome Powell.
A Calm Hearing for Powell
Yesterday’s Senate Banking Committee hearing with Federal Reserve Chairman Jerome Powell left little doubt that he will serve a second four-year term. Committee questions focused on Powell’s views on inflation and jobs, not his qualifications or track record. Repeatedly, Powell underscored that Fed’s tools are limited for addressing supply disruptions due to Covid. The Fed will do what it can to tame inflation, but it is constrained in its power which is limited to cooling the demand-side of the inflation equation, a big part of the problem with prices, per Powell. The Fed will likely do much less over the coming year to push the strong recovery, but it is unlikely to slam on the breaks. Even so, Senators from both parties have concerns about the Fed.
In one noteworthy exchange, Senator Hagerty noted that if all three of Biden’s presumed Federal Reserve nominees secure confirmation along with Lael Brainard’s ascension to Vice Chair, Democrats would effectively have a 4 to 3 majority on the Board. Hagerty is worried that an “activist bloc” could politicize the Fed. Powell assured the Senator that he would lead the Fed as he did during his first term: through collaboration and consensus. Powell said that while a 4-3 Board of Governors has the jurisdiction to alter regulatory policy, the Federal Open Markets Committee still controls monetary policy and has an additional 5 voting members from the Reserve Banks.
At her hearing tomorrow, Brainard is likely to reiterate many of Powell’s points. Given Brainard’s service at the Fed and her excellent working relationship with Powell, she is likely to play a key role in shaping policy. To be clear, Senator Hagerty is correct that a 4-3 Board could change policy substantially, but no one should expect a left-wing takeover or radical regulatory changes. Instead, policy changes will progress sensibly and deliberately.
A Progressive Slate of Nominees
Along with Powell and Brainard at the helm of the Federal Reserve, the White House is considering a slate of progressives to fill out the remaining vacancies on the Board. While not officially nominated, the three presumed picks would bring strong regulatory oversight of Wall Street and much-needed diversity to the Fed.
- Vice Chair for Supervision — Sarah Bloom Raskin: A former Fed governor from 2010 to 2014 and Deputy Treasury Secretary from 2014 to 2017 under Obama, Raskin is being considered by the White House for the Vice Chair for Supervision role on the Fed Board. This anticipated appointment comes at the behest of progressives who support Raskin’s track record as a tough-on-Wall-Street bank regulator. Raskin’s previous stint on the Board of Governors garnered progressive praise as she focused on consumer protection and income inequality with particular emphasis on student loan debt and cybersecurity.
- Board of Governors — Lisa Cook: Considered one of the country’s more well-known economists, Cook would bring detailed knowledge of macroeconomic trends and international finance to the Fed from her current tenure at Michigan State University. Cook has worked on the White House’s Council of Economic Advisers as well as held visiting appointments at the National Bureau of Economic Research and several regional Federal Reserve branches. If confirmed, Cook would be the first Black woman on the Fed Board in its 108-year history.
- Board of Governors — Philip Jefferson: Currently serving as vice president for academic affairs and dean of the faculty at Davidson College in North Carolina, Jefferson is known for his scholarly works on poverty and income distribution. Jefferson is also a former research economist at the Federal Reserve Board and held visiting appointments at the Federal Reserve Bank of New York.
Adding these three to the Fed Board would not only provide important perspectives all too rare at the institution but also hand progressives a clear majority on the Board of Governors to alter regulatory policy as is the purview of the Board. While the Fed is one of the last remaining apolitical, consensus-driven institutions, some matters will ultimately come down to this 4-3 split, and those decisions will have significant impacts on macroeconomic policy going forward.
Macro-Impact of a 4-3 Fed
Given the opportunity, it is likely Brainard and Raskin will be able to muster a majority on the Board to move forward on regulatory priorities, as well as other important progressive items such as climate and FinTech risks, bank merger oversight, inflation, and racial inequity.
One of the first changes we are likely to see at a Fed Board governed by a progressive majority is changing regulations to incentivize banks and their affiliates to be more prudential in their risk-taking activities. Raskin is likely to lead the charge in calling for new rules regarding the impact of climate change and FinTech on systemic risk. And finally, the four progressives on the Board would be able to more critically assess the public interest of bank mergers.
Beyond regulatory reforms, the new majority would also be able to push the Federal Reserve to fully conform with its Flexible Average Inflation Targeting framework over the rebukes of inflation hawks. Previous minutes from FOMC meetings suggest we will see three rate hikes this year, perhaps starting as soon as March. While the FOMC is the ultimate deciding body on monetary policy, the composition of the Board of Governors plays a large role. The FOMC is composed of 12 voting members, seven of which are the Board, four of which are rotating members from the regional Federal Reserve banks, and the final member is the head of the New York Fed. With some of the most hawkish members gone and replaced by more dovish ones, it will be critical for the Fed to not raise interest rates too high; otherwise, the Fed could trigger an economic contraction.
Lastly, a 4-3 Fed majority including Cook and Jefferson would bring racial inequities to the forefront of the Fed’s internal operations and policy decisions. We would likely see greater emphasis placed on ensuring a racially equitable economic recovery post-COVID. One way this could be accomplished is by tying criteria for stages of the recovery to the Black unemployment rate. Since the Black unemployment rate is much higher than the general unemployment rate, it gives us a better picture of how broad-based the recovery is — and isn’t.
The prospect of a 4-3 progressive majority at the Federal Reserve promises a once-in-a-generation opportunity to restore common-sense regulatory policies, make overdue operational reforms to crack down on systemic risk in the financial sector, and promote monetary policy supporting an economic recovery that is broadly felt and not cut short.