Trump's verbal attacks on the Fed hurt his cause

President TrumpDonald John TrumpUS reimposes UN sanctions on Iran amid increasing tensions Jeff Flake: Republicans 'should hold the same position' on SCOTUS vacancy as 2016 Trump supporters chant 'Fill that seat' at North Carolina rally MORE is most likely correct to think that the Fed would be ill-advised to raise interest rates at its meeting on Wednesday.

However, by expressing that view so forcefully and publicly, he increases the odds that the Fed might be compelled to raise interest rates despite a weak case for doing so.


It might be forced to do so in order to maintain its credibility as an independent institution that is free from outside political interference, especially from the president of the United States.

Among the valid arguments that President Trump advances to support his no-further-rate-increase case is that U.S. inflation remains very well contained and that the dollar has been strengthening. He also argues that “the outside world is blowing up around us” with Paris burning and the Chinese economy being way down.

President Trump could have gone much further in advancing arguments against a Fed rate increase at this juncture. He might have noted that in addition to the dollar strengthening, there has been a sharp tightening in overall U.S. financial conditions that must be expected to slow the U.S. economy in the period ahead.

This tightening has occurred as the combined result of a sharp fall in U.S. equity prices, an appreciation of the U.S. dollar and an increase in interest rate spreads on riskier loans.

President Trump might also have pointed out that even were the Fed now to stop raising its short-term interest rate, it would still be tightening monetary policy by continuing to engage in quantitative tightening, reducing the size of its bloated balance sheet by $50 billion a month.

By running off its Treasury bond holdings, the Fed would continue to be putting upward pressure on long-term interest rates. It would be doing so at the very time that the European Central Bank would be ending its bond-buying program.

In much the same way as global quantitative easing created very easy global liquidity conditions and rising asset prices, one would think that global quantitative tightening now would do the reverse.

And as global financial conditions tightened, one would think that both the U.S. and global economies would be adversely impacted, which would in turn be a drag on their respective economic recoveries.

In advancing the argument that the U.S. economy was likely to be impacted by adverse economic developments abroad, President Trump could have gone much further than simply pointing out that the Chinese economy is slowing and Paris is burning.

He might have noted that the European economy is also likely soon to receive a serious body blow from the combined effect of a disorderly Brexit process, a confrontation of Italy’s populist government with its European partners over its deficit-busting budget and a German economy that is being adversely impacted by domestic political uncertainty and the threat of U.S. automobile import tariffs.

He might also have noted that important emerging market economies like Brazil, Indonesia, South Africa and Turkey are all likely to be adversely impacted in a very meaningful way by a sharp reversal in capital flows back to the United States as global investors become increasingly risk averse.

Sadly, President Trump’s strong case against a further interest rate increase at this stage is undermined by his public rants against the Fed and Jerome Powell, its chairman. However, on second thought, this might very well be President Trump’s real intention.

Should the Fed now raise interest rates and should for any reason the U.S. economy go into a recession in 2019, President Trump will have a ready scapegoat to blame in the form of Powell and his Fed colleagues.

Desmond Lachman is a resident fellow at the American Enterprise Institute. He was formerly a deputy director in the International Monetary Fund's Policy Development and Review Department and the chief emerging market economic strategist at Salomon Smith Barney.