The Dangers of Fiscal Dominance

How Trump could Zimbabwify America

Donald Trump wants to destroy the independence of the Federal Reserve and assume personal control of monetary policy. It’s clearly an obsession with him and his efforts just keep getting more extreme.

First he spent several months haranguing Jerome Powell, the Fed chairman. Next he announced that he was firing Lisa Cook, a member of the Fed’s Board of Governors, on the basis of extremely thin accusations involving mortgages she took out before she joined the Board. When Cook filed suit, claiming — almost surely correctly — that he had no legal right to fire her, his Justice Department upped the ante, saying that it was considering criminal charges. And need I add that three other members of Trump’s cabinet appear to have made the same mortgage arrangement as Lisa Cook, as well as the parents of Bill Pulte, Trump’s hired assassin in this matter.

Unless the Supreme Court is more in Trump’s back-pocket than is already evident, I don’t Trump will prevail in firing Cook. But his over-arching goal, clearly, is to personally intimidate Fed officials — “get in our way,” the White House is saying, “and we will ruin your life.”

Meanwhile, Trump has nominated Stephen Miran, chair of his Council of Economic Advisers, to fill a vacancy on the Board. Incredibly, Miran says that he will not resign his current appointment. Rather, he intends to just take a leave of absence. Having an employee of the executive branch serve as a member of the Board would be completely unprecedented. An act like that is effectively a textbook case of the elimination of Fed independence.

And trashing the Fed’s independence is clearly a top agenda item of Trump’s accomplices: Scott Bessent, the Treasury secretary, has just published a remarkably sleazy article smearing the Fed. More on that in a future post.

There is no real dispute over what Trump is doing. Trump has announced that not only should the Fed lower the Fed funds rate, the short-term interest rate that the Fed controls, but that it should be lowered by 300 basis points. That would be dropping the current rate from 4.5 to 1.5. That’s an enormous drop – one which has never been done except in the teeth of a deep recession.

Why is Trump demanding this? In answering that question, one should never rule out the role of sheer ignorance. Trump may imagine that lower short-term interest rates will lift him in the polls, while ignoring the high likelihood that such a steep fall in short-term interest rates will raise expected inflation and, as a result, long-term rates will go up, not down. And sometimes he seems to think of interest rate reductions as a sort of trophy, like an award you get for supposedly winning a golf tournament.

But there is another reason that might explain why Trump wants to end the Fed’s independence — and this reason makes economists very, very nervous. For it’s likely that Trump is seeking to establish “fiscal dominance” of monetary policy — a policy regime in which the Fed’s actions are dictated, not by an effort to achieve low inflation and full employment, but by the desire to avoid hard choices on taxes and spending.

So I’m going to devote today’s primer to fiscal dominance: What it means and how it has played out in the past. Beyond the paywall I’ll talk about four ways a central bank that has lost its independence can enable fiscal irresponsibility:

1. Seigniorage: Using the printing press to cover budget deficits

2. Financial repression: Using low rates to reduce budget deficits

3. Goosing the economy: not exactly fiscal dominance, but political dominance

4. Expropriation through inflation: Inflating away government debt