On Saturday, Jerome Powell will replace Federal Reserve Board Chair Janet Yellen and become one of the most important figures in the world — chairman of the Fed. For most people, a change in the guard at the Fed is a sleepfest — probably only getting a glancing reference on the 5 o’clock news. But it shouldn’t be.
The days of disciplined fiscal responsibility are a distant memory, and our world continues to lurch from crisis to crisis. And when disaster strikes, Washington turns to the Fed to fix the mess.
A 2015 report from McKinsey shows global debt expanded $57 trillion since the financial challenges in 2007, with global debt now almost three times global economic output. To put this in perspective, if you took every penny of revenue produced in the world and applied it to the debt, it would take nearly three years to pay it off — and that is if there is no interest on the debt.
But interest is charged on the debt, and central banks like the Fed hold the key to the amount of interest charged.
When you finance spending, there is a power shift from borrower to lender. So in a sense, there has been a gradual shift in power from Washington to the Fed — the lender for U.S. debt. And if the trend in debt financing continues, Washington may find itself powerless in a future crisis.
It hasn’t always been this way.
In a letter to Virginia politician John Taylor in 1816, Thomas Jefferson expressed his views on fiscal debt:
"And I sincerely believe with you, that banking establishments are more dangerous than standing armies; & that the principle of spending money to be paid by posterity, under the name of funding, is but swindling futurity on a large scale."
In the 1830s, Andrew Jackson fought vehemently against the creation of a national central bank, arguing that a central bank will concentrate too much “financial power” on the private banking institutions. Before seeking the presidency, Jackson had struggled in his career because of a tightening of credit, and he “retained a general distrust of financial institutions,” knowing firsthand the power they exerted over the citizens.
Eventually, a central bank was established in the United States in 1913.
But even in the early days, the Fed did not yield the power it does today. It was like the third-string quarterback on the winning team of fiscal responsibility in Washington.
Today, the Fed is the star — rushing the field with new and exotic games of finance: quantitative easing, the Greenspan put and entirely possible negative interest rates in the future. All this because the executive and legislative branches seem unwilling to take responsibility for the budget.
And the debt ticks higher. Now, it's almost $21 trillion. And the power of the president and Congress to do anything about it slowly slips away.
So on Saturday, the keys to one of the most influential offices in the world are being handed over to a new Fed chairman — Jerome Powell.
What will he do with the keys?
By most accounts, he will continue the path set by Yellen. The economy has improved since President Donald Trump took office in 2017, and the Fed has used the time to normalize fiscal policy after nearly 10 years of easing. It raised interest rates three times in 2017 and started buying back the bonds it issued to stimulate the economy.
It’s widely expected a Powell-led Fed will do the same in 2018. But what will he do in the next crisis?
During the Senate confirmation hearings, Powell made some statements that shed light on this question.
First, he vowed to “respond decisively” to any new economic crisis.
“We must retain the flexibility to adjust our policies in response to economic developments. ... We must be prepared to respond decisively and with appropriate force to new and unexpected threats to the nation’s financial stability and economic prosperity.”
When pressed on the issue of whether any U.S. banks are still considered too big to fail, Powell responded with a simple “no.”Comment on this story
Austerity is a term used to describe an economic policy that is tough on borrowers. Austere measures in Washington would include cutting spending, increasing taxes or a combination of both. About “too big to fail,” austerity would mean allowing the natural consequences of poor decisions to play out and not bail them out.
Austerity is a hard pill for most to swallow. But it is often needed to turn things around. In the world of undisciplined fiscal responsibility and extravagant spending, it is refreshing to hear a simple “no” from Powell.
He has a fine line to walk. Let us hope he does it well.