JOHN MASON: The Fed could act as the world's Central Bank
The Fed could act as the world's Central Bank
“Donald Trump appears to be ‘reveling in the strong dollar’ and its ability to bring pressure on his foes.”
This quote is from the Smart Money column written by Roger Blitz in the Financial Times, who credits the remark to Chris Turner at ING. But, one could not have imagined anyone saying something like this about Mr. Trump early on in the Trump era.
When Donald Trump was elected President, it cost just under $1.0900 to purchase one Euro and the US Dollar Index (DXY) was 98.99.
Immediately after the election, the dollar rose in value. On December 20, 2016, it cost only $1.0387 to acquire one Euro and the US Dollar Index was at 103.22. But, the Donald Trump, at that time, did not like a strong dollar.
Just around the day he was to be inaugurated, January 17. 2017 to be exact, Mr. Trump went on record attempting to talk down the value of the US dollar.
Mr. Trump at that time was showing all his mercantilist credentials: a weak currency, advocacy of a protectionist trade policy, and a focus just on the success of the United States. “Make America Great Again.”
Well, the value of the US dollar did fall. By the first of September 2017, a Euro now cost over $1.2000 and the US dollar index hit a bottom of 91.35.
However, prices went even lower. On February 1, 2018, one Euro cost just over $1.2500 and the US dollar index dropped to 88.63. And, many analysts held the firm belief that the dollar would get even weaker.
But…surprise....surprise! The value of the US dollar turned around. What seemed to change this, among other things, was a change in leadership at the Federal Reserve System. Jerome Powell, became the Chair of the Board of Governors, replacing Janet Yellen, whose term expired January 31.
One of the first things that Mr. Powell did was to firmly state that he was going to continue the support the Fed’s program of continuing to raise the Fed’s policy rate of interest. After years of holding its policy rate constant, the Fed raised the rate in December 2015 and in December 2016. The policy rate was raised three times in 2017, and Mr. Powell confirmed that he would seek four more increases in the rate in 2018, with three more following in 2019.
This “forward guidance” put the Federal Reserve…and the United States on a path that was completely different than most other economically developed areas in the world. As a consequence, the value of the US dollar began to rise in value.
And, the increases continued throughout the year, especially as investors saw that Mr. Powell was also serious about overseeing the further reduction in the size of the Fed’s securities portfolio. At the start of the week beginning August 13, one Euro now cost only about $1.5000 and the US Dollar Index reached 96.70.
Now, I use all this as prelude to the argument that I made in my last post for "the Peak". In that article I argued that the Federal Reserve had become like the central bank of the world. If so, however, it needs to act like it is the world’s central bank and conduct its monetary policy as if it is the world’s central bank.
Circumstances have now brought the Federal Reserve into a position where it could really act as the world’s central bank. The following is just a short list of what needs to be done. I will follow up in further writing about how these ideas might be implemented…with the support of the Trump White House.
First, the Federal Reserve needs to put primary focus on the value of the US dollar. As Paul Volcker, former Fed Chair, has written, “a nation’s exchange rate is the single most important price in the economy; it will influence the entire range of imports and exports, and even the level of economic activity. So, it is hard from any government to ignore large swings in its exchange rate….” (“Changing Fortunes: The World’s Money and the Threat to American Leadership,” by Paul Volcker and Toyoo Gyohten, Times Books, 1992, page 232.)
Given the environment of global markets and world central banks right now, this would be an excellent time to begin to focus on the value of the US dollar and how this effort could stabilize the United States economy, but also the economies of the world. As I mentioned in the post cited above, many of the problems in the world today…in Turkey, Argentina, and other places…emerging market countries acted as if the Fed’s actions were only centered on the US…and, as a consequence have gotten themselves in lots of trouble.
But, for the Fed to conduct its monetary policy to achieve and maintain a strong dollar, Mr. Trump would have to change his mercantilist views to match the support of a strong currency. But, he’s done that before. Mercantilism lives off of a weak currency and protectionist policies.
I’m talking about a strong currency followed up by government efforts to support innovation along with creating an environment that aims at stimulating the growth in labor productivity. These efforts would not be short-term focused stimulus programs, but longer-term aims at education, re-training, internships, and the like to help better prepare people for being fully employed in this modern economy. It would also include spreading information on job availabilities, job skills needed, and mobility. Great pains should be taken to include those that make up Trump’s electoral base who have felt forgotten and left out of the economy of the twenty-first century.
This would also help businesses and industries transform themselves into the "new" Modern Corporation. The “new” Modern Corporation is where the world is going right now, where more and more emphasis will be placed on intangibles, like networks and platforms, and less and less emphasis will be placed upon physical production.
Furthermore, returning the emphasis within the corporation to growing labor productivity will help the economy in two further ways. First, if labor productivity is growing faster, real wages will be rising faster, which is something that almost everyone seems to watch.
Second, trying to build a strong, productive economy that is needed to keep the United States competitive and connected with a strong US dollar, less focus will be given to the creation of credit inflation, the general policy of the US government over the past fifty-seven years, because efforts to produce an environment of credit inflation are counterproductive to maintaining a strong currency. This is basically what happened to the US dollar and the US economy during this fifty-seven year time period.
But, less emphasis on credit inflation will lessen the need for businesses to rely upon financial engineering and financial innovation. This will mean that companies will not need to rely on debt as much in the future and this will be to the benefit of all. Less debt, more stability.
Might Mr. Trump pick up on something like this? He likes things that are “strong”! Why not a strong dollar! And, the effort would include, as discussed above, building a strong, competitive economy with strong competitive businesses. Of course, he would have to change his mind on some other things…but, that doesn’t seem to be a problem.
Stay tuned. I will be writing more on this.