Introduction to the Fed–President Pressure Index
The Federal Reserve Chair, Jerome Powell, recently delivered a message stating that the Department of Justice had served the central bank with grand jury subpoenas, which could lead to a criminal indictment. Powell claimed that the investigation was not about his testimony before the Senate Banking Committee or a renovation project at the Fed’s headquarters, but rather about pressure to undermine the Fed’s ability to set interest rates based on economic conditions.
Market Reaction
Despite initial concerns, the market reaction was muted, with the S&P 500, Dow Jones Industrial Average, and Nasdaq all finishing up on the day. Former Fed Chair and former Treasury Secretary Janet Yellen expressed concern about the probe, but it did not translate into selling. Historically, Trump has sparred with Powell before, and little has come of it. Courts have also blocked attempts to remove Fed Governor Lisa Cook, and some Republican senators have pledged to block any new Federal Reserve nominee until the investigation is resolved.
The Fed–President Pressure Index
A study by Yosef Bonaparte, a professor of finance at the University of Colorado Denver, created the Fed–President Pressure Index (FPPI) to measure how much public pressure presidents put on the Federal Reserve. The index was developed by analyzing nearly 69,000 newspaper articles dating back to 1980. The study found that when pressure on the central bank increases, market volatility tends to rise, but not necessarily lower returns. In fact, stock returns are slightly higher when pressure on the central bank increases, with gains concentrated in smaller companies.
Historical Context
Presidential pressure on the Federal Reserve is not new. Lyndon Johnson pushed the central bank to keep interest rates low to support growth and the Vietnam War, and Richard Nixon told Federal Reserve Chair Arthur Burns to loosen monetary policy ahead of the 1972 presidential election. These episodes highlight the ongoing tension between the White House and the Federal Reserve.
The Impact of Pressure on the Economy
While the FPPI suggests that pressure on the Federal Reserve may not necessarily lead to lower stock returns, it can have other negative consequences. Political pressure can raise economic uncertainty, make sovereign debt harder to sell, and damage credibility. In Turkey, where the central bank is under the effective control of President Erdogan, inflation is rampant, peaking at 85% in October 2022 and remaining above 30% today.
Conclusion
In conclusion, the Fed–President Pressure Index provides a unique insight into the relationship between the White House and the Federal Reserve. While pressure on the central bank may not necessarily lead to lower stock returns, it can have other negative consequences for the economy. The index highlights the importance of maintaining the independence of the Federal Reserve and the need for policymakers to be aware of the potential risks of political pressure on the central bank. As the investigation into Powell continues, it is essential to consider the potential implications for the economy and the importance of maintaining the integrity of the Federal Reserve.
