202. What's The Cost Of Trump Controlling The Fed?

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1:25Robert Peston:The more that the kind of thing that Trump does debases the dollar, the more incentive there will be for other groups of nations to make arrangements so that there are alternative payment and trading currencies. Hello and welcome to The Rest is Money with me, Robert Peston.

1:46Steph McGovern:And me, Steph McGovern. We're back together, Robert.

1:48Robert Peston:We are the Travis and Taylor Swift of the podcast world. Can't keep us apart.

1:55Steph McGovern:you can't keep us apart so there's loads to talk about despite it being the summer and you know you would hope things calm down a bit over the summer that is not the case when it comes to global economics if anything things have ramped up once again and we're gonna we're gonna start in the states aren't we with stuff going on there and then bring it back to what's happening in europe and you know what's happening with borrowing costs for governments and and you know lots to talk about but we're going to start in the states aren't we yeah so so bring us up to date with

2:29Robert Peston:trump's latest initiative to gain control of the u.s federal reserve the central bank that sets interest rates for america but you know actually it's the world's most important central bank it you could argue it sets interest rates for the world so yeah this way a massive fight kicked

2:48Steph McGovern:off so Trump announced he was firing a governor at the Federal Reserve called Lisa Cook however she's refusing to go and in response is filing a lawsuit to challenge her removal so she's basically suing the Trump administration there's a standoff here and I just want to give you this some context to this fight before we go into explaining why it matters and what it means so Lisa Cook is an economist she's got a really incredible CV you know before joining the Fed She worked for Obama's Council of Economic Advisors. She was at the US Treasury as well. She was appointed to the board of the Fed in 2022 by Biden's administration.

3:28Steph McGovern:She was the first African-American woman to get that job as well. Now, as part of this job, she is a member of the independent board, as Robert was just saying, at the Fed, who decides rates. And as we've talked about a lot on this podcast, Trump's been desperate for the Fed to cut rates, which they haven't been doing. And Lisa Cook is one of the people responsible for this. And he wants to replace her fundamentally with someone who will basically do what he wants. So what it looks like Trump has done here is basically cooked up a reason to try and get rid of her using a kind of constitutional law that says someone can be removed from the Fed at the president's discretion for cause.

4:14Steph McGovern:And that's the key here, the for cause bit. So in this case, he's saying that the for cause is that she made false statements on her mortgage applications in 2021. So this is before she joined the Fed and it's to do with the status of whether these two properties were primary residences or not. Now, Lisa Cook's lawyer, her legal team, is saying this is rubbish. The evidence that Trump says he has is not legit. But there's another part of this story that I think is really important in terms of context before we get into the implications of it. This is not the first person Trump has accused of mortgage fraud to try and get rid of them.

4:55Steph McGovern:So the New York Attorney General, Letitia James, has also been accused of it. And she is someone who, when you look at what she's done in her career, has won a civil fraud case against Trump for manipulating the value of his properties to mislead lenders and insurers. So she is also someone Trump clearly doesn't like. So what it looks like is going on here is Trump's trying to dig up dirt on the people he doesn't like. So that legal fight is going to continue. But what's important here is, Robert, is this is not good for the economy, isn't it, in terms of what's going on here with Trump trying to control the Fed and what they do?

5:36Robert Peston:There are so many interesting aspects of this. It's almost impossible to know where to start. But let's just begin by looking at the market reaction. What we've seen is something that is a slightly unusual phenomenon, which is because there is a widespread view that Trump is likely to have more influence over the US Federal Reserve and how it sets interest rates. We have seen short term interest rates fall a bit, but simultaneously, because investors and economists worry that that will lead to rising inflation, the cost for the government of borrowing for 30 years for the long term has risen. And so you've had interest rates in the states going at the short end and the long end in opposite directions.

6:41Robert Peston:And what this represents is the concern that if Trump were to get his wish of being able to, in a sense, set interest rates on the basis of his political needs, that will lead to stimulus in the short term, but higher inflation over the succeeding months and years. And, you know, the history of Western capitalism tends to suggest that however much in the short term, you know, politicians may get a dividend from a stimulus, however much in the short term, citizens of a country may enjoy a quick burst of growth. It is the inflation that undermines investment, it undermines growth, and it undermines prosperity in the long term.

7:43Robert Peston:And so I guess the big fear here, and this is not just a fear about what's happening in America, it's also a fear rather more widespread across, particularly the developed world, is whether we are heading back to the kind of boom and bust that we experienced in the 1970s.

8:04Steph McGovern:So coming back to that, Robert, what do you think is going to happen here then in terms of how this plays out?

8:09Robert Peston:I mean, in a way, what's coming home to roost is something that has been an issue ever since central banks across the world progressively got more control over interest rates. You know, the U.S. Federal Reserve broadly got independence in the 1950s. Up to that point, it was under an obligation to help the U.S. government borrow lower rates. And after some legislation and a very tense negotiation between the central bank and the government of the time, It then did get more or less the kind of independent powers to set interest rates that it has today. And we didn't get that kind of independence or the Bank of England didn't get that kind of independence until 1997.

9:04Robert Peston:There is, of course, this concern about what's called a democratic deficit, because, you know, we should be under no illusion. The power to set interest rates is an enormously important power in terms of our prosperity. The practice of giving independence to central banks has tended, the evidence would sort of show overwhelmingly, that it's tended to lead to lower inflation and relatively greater economic stability. but equally it's important to notice and actually funnily enough this was something that you sort of did talk about a bit when you know the bank of england was putting up interest rates to tackle rising inflation these people at these central banks are not elected right and they sort of you know they do you know one of the reasons that trump is finding it so difficult to get rid of Lisa Cook and has found it impossible to get rid of the chairman of the Federal Reserve, despite the fact that he had been talking about wanting to do that, is these people have extraordinarily powerful tenure.

10:20Robert Peston:It's almost impossible for politicians to sack them. But the corollary of that is if it's almost impossible to sack them, it's almost impossible for the politicians and therefore voters to hold them to account. They all have to give evidence, you know, whether it's in the UK to the Treasury Select Committee, whether it's in the states to the various congressional bodies. But nonetheless, they can basically do what they like. And that's the point about independence. But of course, you know, if you think and let's be clear, they're not infallible, these institutions, that central banks periodically make mistakes.

11:06Robert Peston:And, you know, for example, in the UK, I think there's a very strong argument that the massive money creation, quantitative easing it did during Covid was a mistake, but they sort of get away with it. They don't even in the end do much in the way of saying sorry for those kinds of things. So what I'm saying is that Trump is actually tapping into an underlying unease about this system, which is are any of these central banks in a sense subject to enough democratic control, which is not to say that what Trump is doing is a good thing.

11:43Steph McGovern:I could see that argument being made for someone who was like a rational leader, but he's not doing it because he thinks that, you know, these people are not being held to account. He's doing it so he can just have control over them, isn't he? Everything in his life is about control. But just on that, Robert, I wanted to ask you something then. If they were people who were elected into it democratically, isn't there a danger then that they would then make decisions economically based on short term electoral wins rather than on longer term prosperity for the economy? because fundamentally that's the issue that we constantly talk about with when fiscal policy is made, when decisions are made by the Chancellor or it seems like it's based quite often on them wanting to win that popularity from the electorate so that they get back in at the next election and wouldn't that happen with economics then where monetary policy would be made by people who are thinking about trying to keep their position on the committee rather than actually what's the best thing for the country.

12:44Robert Peston:So you're absolutely right. I think a system of electing the people who sit on these various boards that set interest rates, whether it's the Federal Open Markets Committee in America or whether it's the Monetary Policy Committee in the UK, a system of electing these people would be a disaster. Because, of course, they would all be obsessed with their re-election. And you're right that history would suggest, therefore, they would not make the kind of tough, unpopular decisions that we need these people to periodically make when there is a risk of inflation rising. So I'm not arguing a for direct elections of these people or and I'm also not saying that there's some very simple route to better holding them to account.

13:42Robert Peston:But I my argument is just that Trump is tapping into something that is real, which is that very often these people make mistakes and they sort of, you know, they very often don't even say sorry. Right. And, you know, occasionally in a very technical sense, they'll stand up and try and explain how they manage to make these misjudgments. but I you know I've always been uncomfortable you know ever since we saw this great global trend towards giving independence I've just been uncomfortable with the power that these people have relative to our ability to basically you know get them to explain and learn when things go wrong.

14:29Steph McGovern:Putting that to one side though there's a concern here a much bigger issue around the central banks losing their independence. And that's something you're worried about, isn't it, Robert?

14:40Robert Peston:Yes. And just to summarise what he's doing, he's trying to get rid of Lisa Cook. If he succeeds with that, he is in a position to get a majority of governors on the Federal Reserve. He wouldn't at that point have a majority on the Federal Open Markets Committee because there's also a bunch of people on that committee who are the presidents of the regional central banks, But he's trying to change that system so he gets more control over those appointees. And, of course, he gets to appoint the head of the U.S. Federal Reserve next year. So if he were to achieve everything he wants to achieve, he would, in effect, have control of the world's most important central bank.

15:26Robert Peston:And that is massively unnerving investors in financial assets, economists, people who run businesses. And the reason for that is because there is a fear that for the short term gain of a stimulus of lower interest rates in America, he would be undermining the credibility, the strength, the stability of the dollar. And that doesn't just matter in America. It matters to the world because so much of the world's trade is priced in dollars. So many global transactions take place in dollars. And that gives America this what's called exorbitant privilege. It means that because it is the world's reserve currency, trading currency, actually, America has historically benefited from much lower interest rates than would be the case if the dollar didn't have that extraordinary privilege.

16:34Robert Peston:privilege, because it broadly means that, you know, whether you're a business, whether you're an investor, anywhere in the world, you have to own a certain amount of dollars and dollar assets. And the more that people lose confidence in the stability of the dollar, the more that the kind of thing that Trump does debases the dollar, the more incentive there will be for other groups of nations to make arrangements so that there are alternative payment and trading currencies.

17:06Steph McGovern:Yeah, it really is an example of that thing, you know, you often hear in the headlines whenever we talk about the American economy is that they sneeze and we catch a cold. Like it's a real clear example of how this issue really has its tentacle spread right across the world. So can Can I ask you, though, on that reserve currency point, if there was to be a move away from the dollar being the reserve currency, and you mentioned the BRICS one, I remember we talked about at the time when Putin was talking about all that. But what do you think it's most likely to be? Would it be the euro? Would it be the yen?

17:43Steph McGovern:Could it potentially be a cryptocurrency type system? I mean, that seems like a million years off, but who knows? But what's your feeling if there was a move away from the dollar as a reserve currency?

17:56Robert Peston:So this is obviously early days and a lot of it will depend on, you know, essentially whether Trump is successful in gaining control of the Fed. Look, there's been a lot of evidence so far that when the going gets tough, Trump heads off in the opposite direction. And we've seen that with tariffs. So, you know, we should be clear that although he's damaging at the moment the perception of Fed independence, he hasn't yet blown up the institution and it is yet possible that that won't happen. But let's take a worst case scenario. Yes, there's an enormous amount of financial innovation going on in the world.

18:37Robert Peston:And, you know, there is, for example, an accelerating, there's an acceleration in the creation of one version of cryptocurrency, which are the stable coins. There is certainly a theoretical possibility that you could see the rapid growth of an alternative global payment mechanism. The central bankers at that point would have absolute kittens because there are scenarios in which their power to regulate how much money there is in the world and the cost of money would be massively undermined if we saw the growth of some kind of generally accepted form of crypto payment. But as I say, we've also seen these initiatives to set up rival payment mechanisms.

19:28Robert Peston:And, you know, China, China, to an extent, has already done that because with sanctions being imposed on so many countries by America, Russia is the obvious example. Sanctions only work when payments for goods and services are in dollars. And so there are already big incentives for the likes of China to put in place alternative payment mechanisms to get round sanctions so that they can continue to trade with countries like Russia.

20:03Steph McGovern:Well, that's the US boxed off, isn't it? But I think we should talk about what's happening in the UK and the fact that borrowing costs for the UK government have hit 27 year high. So what's going on? We'll tell you after the break.

20:43Steph McGovern:Visit your nearest Croc store today. This episode is brought to you by Google Chrome. You think you know a browser, but Gemini and Chrome, that's new. It can help you with practically anything on the web, like restoring a vintage motorcycle from a 50-page restoration block, or finally break down that long article you've had open for weeks. Gemini and Chrome is here for it. Ready to make anything online make sense? There's no place like Chrome. Check responses set up required, compatibility and availability varies 18+. When you need to build up your team to handle the growing chaos at work, use Indeed Sponsored Jobs.

21:18Steph McGovern:It gives your job post the boost it needs to be seen and helps reach people with the right skills, certifications and more. Spend less time searching and more time actually interviewing candidates who check all your boxes. Listeners of this show will get a$75 sponsored job credit at Indeed.com slash podcast. That's Indeed.com slash podcast. Terms and conditions apply. Need a hiring hero? This is a job for Indeed Sponsored Jobs. Should we look at what's going on here then? Because we've seen there were quite a few headlines this week, obviously, because we saw the cost of borrowing for the UK government hit a 27-year high.

21:54Steph McGovern:So, you know, typically what you look at is that 30-year yield on gilts. It climbed over to over 5.6%. And, you know, I think important context to this is, obviously, when Liz Truss did that mini-budget a couple of years ago, that caused absolute chaos in terms of, well, we've talked about this, haven't we, about what was really behind all the chaos. But at that point, the yield on 30-year gills was at 5%. So we're above that now. This increased cost of borrowing for the government is really bad news because it's adding tens of billions, if not near 100 billion a year, to the cost of their borrowing, almost 10 % of annual budget.

22:40Steph McGovern:So what's going on, Robert? What's your take on what's happening here with it being so expensive now for the government to borrow money?

22:47Robert Peston:The economy is not growing fast enough to give investors confidence that the government will be able to bring the debt burden down. You know, I explain that very simple sum, but when you've effectively got, as we've got in the UK, 100 % of GDP, and if the so-called natural rate of interest is higher than the sustainable growth rate, which it appears to be in the UK, then you run the risk that simply as a result of the interest that the government is paying, and the government is currently paying£100 billion plus of interest every single year, that the government simply can't raise enough in tax revenues in the normal run of things to bring the debt down.

23:34Robert Peston:So you get into a debt or death spiral where simply paying the interest in a low growth economy means that the debts of the government go up and up every year. And that spooks investors. And so, you know, you need to somehow break that vicious trend. trend. And the only way you can do that is either to get the growth rate up sustainably. And at the moment, you know, one does have doubts that the government is being ambitious enough in terms of its structural reforms to get the growth rate up. There are only two other things you can do. You can massively cut public spending. You'd argue politically impossible for this government, particularly at a time when in many departments there's a squeeze going on anyway.

24:22Robert Peston:and then putting up taxes as a double-edged sword because yes, you could put up taxes massively but that would undermine the confidence of the private sector and it would do very little to get the growth rate up. And so putting up taxes might work in the short term but it ain't going to work in the longer term. And that's why relative to many of our competitor countries we have genuinely, worryingly that the yield on gilts, the price that the government pays to borrow, is worryingly high. There is just one thing, though, I do want to point out. I noticed there was a bit of talk in the last few days about if nothing is done to correct this significant increase in the debt burden of the UK, that we would go back to the kind of crisis we saw in the 1970s and go cap in hand to the International Monetary Fund.