Is Donald Trump right in his assessment of Jerome Powell?

Featured image is in the public domain. Author: Federalreserve

As with so many of these “is Donald Trump right” type questions, you probably already know my answer! However, there is a great deal of nuance to the question at hand that concerns the impact of Jerome Powell’s projected 3 interest rate rises next year. Already in 2018 the Federal Reserve has raised the federal funds rate three times, and the financial markets expect another hike in December, making it a grand total of 7 rate rises in 2018-2019. Donald Trump has gone on record saying that he was “not even a little bit happy” with the selection of Powell as the Chairman of the Fed, primarily due to the number and pace of interest rate rises that are projected to occur under his watch. However, with interest rates still very low (the federal funds rate sits currently at 2.25%) relative to their post-financial crisis levels, one question remains: Is Donald Trump’s annoyance simply due to his spending-driven boom being stymied by Powell?

Looking at the argument from Trump’s perspective, you could make the argument that such quick rate rises are highly risky. This is due to the formation of asset price bubbles that have grown in size ever since the dramatic cuts in interest rates that happened during the financial crisis. Reportedly the US stock market is the most overvalued on record – more so than in 1929, 2000 or 2007. The metrics used for this are indicators such as price to earnings ratios, which are almost at the highest levels seen since 1870. Moreso, the “Buffett indicator”, or the total market capitalisation of the US stock market divided by US GDP, lies at 138%. This compares to a peak of 105.2% during the financial crisis and 136.9% during the dotcom bubble.

Low interest rates boost prices of asset such as stocks because they decrease the risk-free rate of return, leading to a greater incentive to invest in these riskier assets. Hence the prices of these assets (at least in theory) should rise in response to falling interest rates. The issue comes when rates rise again. If Powell is too quick in his rate rises the risk-free rate of return rises too quickly which potentially siphons funds away from stocks. Now, if stock prices drop too quickly then we see a rapid decline in the wealth of millions of Americans holding their funds, in some way or the other, in the stock market. As theory and practice have shown the likely outcome of this is then a rapid decrease in consumer spending, which leads to a decrease in business investment (through a decrease in retained earnings) and eventual recession. If this is what Trump is getting at, though, the question remains: how quick is too quick for Powell?

Taking a directly contrasting perspective, Powell also has a strong case for raising interest rates. Logically, the longer the period of time for which the risk-free rate of return is so low, the greater the asset price bubbles become in size. This indicates rapidly rising property and stock prices and thus high levels of inflation. With interest rates being one of the main tools the Federal Reserve has at its disposal to combat inflation, the most rational choice seems to be to stem the asset price bubbles before they get any bigger. If the bubbles pop, so be it: the alternative is to push the popping of these bubbles further down the line and eventually increase the severity of a recession. As mentioned before, given that we are already so far down the cycle, it makes sense economically to raise interest rates and cut the damage from a recession that may already be in the pipeline.

To summarise both arguments, the truth is that no one knows precisely how quick the Fed can raise rates before triggering a recession. However the heart of the matter lies in the rift between raising interest rates now or raising interest rates later. While true that raising rates now makes it far likelier for another recession to occur in the near term, the asset price bubbles that have built up across the US economy in asset classes such as stocks and property near guarantee another recession sooner or later. Trump’s dispute (in my opinion) exists because of his political self-interest; of course raising rates while he is in power dampens any economic boom currently existing, and thus his popularity. Economically, however, it remains the case that for me Powell is justified both in the existing rate rises he has carried out and also his forward guidance for the future. The decisions show prudence and responsibility, and whatever Mr Trump may think, I feel that this is what is best for the USA at this time.

Why the Dow’s rise isn’t a sign of President Trump’s great policy for me

The featured photo is licensed under the Creative Commons Attribution-Share Alike 2.0 International license, and was taken by Gage Skidmore.

Characteristically, President Trump has recently been all about showing off how well he’s performed in his first year as one of the most powerful people on Earth. While for myself and some others his first year has been unsuccessful (to put it mildly), Trump is dead set on proving us naysayers wrong largely by using the sustained rise in the Dow Jones Industrial Average (an index showing how shares in 30 of the US’ largest companies have traded over periods of time) during his presidency. While at first glance well-performing large companies may seem to indicate that the economy as a whole is performing well (which it is currently), in this article I will make and support two propositions: firstly that the current US economic boom is unsustainable (assuming the Dow is a good measure of current economic performance), and secondly that the Dow, either way, isn’t a very good reflection of how the economy is doing.

Looking more in depth at our first strand of argument, while business spending increases have allowed the US economy greater than 3% economic growth over the past two quarters, the Trumpian tax cuts for corporations and the wealthy run the risk of actually increasing the American budget deficit (exactly the opposite of what many Republican deficit hawks campaigned for). Politically, this becomes very difficult for the Republicans to justify, but more than that, the fact that that according to the Tax Policy Centre Trump’s plan actually would hurt the lower 50% of income earners represents a decrease in future consumption and thus a decrease in US short run (and long run if firms then stop investing) economic growth arising from this set of policies. Essentially, then, the point I’m trying to make here is that hurting the little guy may boost growth in the short term, but in the long term when real after-tax incomes and consumption fall, the economy might not be doing so great. This is because the rich consume less than the poor for an equal addition to income, so even though the rich get richer, it might not actually boost consumption and growth all that much. So Trump can be happy with the buoyant Dow and economy for now, but he should know it may not last long.

Taking the issue from another perspective weakens Trump’s Dow-focused point further. If we look at who the Dow Jones’ rise actually helps, we see that it serves to increase income inequality further. A NYU report in 2013 showed that the richest 20% of Americans owned 92% of stocks, indicating that the benefits from the Dow’s rise are not equally distributed. Even if we look at the Dow’s rise in isolation as a sign that the economy is doing well, we still see numerous faults with the theory. By seeing what the Dow actually is, and how it may have been affected by recent news, we can see that it may have been buoyed by Trump’s plans to cut business taxes and not actually an improving economy. Within this plan, Trump has also presented changes to the individual tax code that disproportionately benefit the wealthy, but although the American middle and lower economic classes may not actually benefit from his plans, the Dow is rising. This one example shows the divorce that may exist between the performance of large companies and the economy in general; income inequality worsens the economy through decreasing growth, but tax cuts boost large corporations’ after-tax profits. Hence, through this example we can see that the Dow Jones may not be able to accurately gauge US economic performance, putting another dent in the logic behind some of Trump’s recent tweets.

To summarise and conclude, I have established in this piece why I think that President Trump using the Dow Jones Industrial Average to cement his claim to doing well in his new job is flawed. This is both for reasons relating to economic unsustainability, and also because the Dow doesn’t actually tell us how the economy performs all that well. On another, slightly related note, this sort of issue is why I think that the backlash against experts these days is so unhelpful. The things I’m saying here would be much more credible if an actual expert was saying it, but without experts there are no credible voices to inform people that their President may not actually be doing the wonders for the economy that they think he is. I sincerely hope that in the future we can arrive in a world where experts are given the respect they deserve, and are able to call out any figure for saying something potentially wrong without being disregarded because they can’t predict a world that is fundamentally unpredictable. Without it, well, we’ll have lost one crucial, perhaps vital, check on people in positions of great power.

Why free trade is wrong

For many years, the debate between free trade and fair trade has been ongoing, and it has been one of the stalwarts of economic argument recently, in an ever changing field. Free trade proponents across the world argue that it is a viable policy to ensure a level playing field between all manufacturers, and to therefore grow the economies of developing countries through increased competition and increased production. However, it could be argued that the ramifications of free trade outweigh its benefits, and it is for this very reason that I am an advocate of fair trade, not free trade. Free trade has several disastrous repercussions attached to itself, including environmental degradation, poor working conditions, and the loss of jobs. These points mean that free trade can never be morally, or indeed economically justified. Continue reading “Why free trade is wrong”

Why Hillary Clinton is the woman America needs for 2016

With the soap opera of the Republican nominations taking over the U.S. political scene, the Democrats have been somewhat overshadowed. The few who are focusing on the Democratic elections have seen a clear frontrunner come through: Hillary Clinton. Despite the astonishing rise of Bernie Sanders, Hillary Clinton still remains the overwhelming favourite to be the Democratic candidate for 2016, and for good reason. Continue reading “Why Hillary Clinton is the woman America needs for 2016”

Why Bernie Sanders would be bad for the U.S. economy

It is fair to say that Bernie Sanders has received a quite sensational surge in popularity over recent months. His increased popularity comes as a result of the idealism which he exhibits, which has appealed to many a disaffected American. However, while this surge in popularity could come as a newfound victory for American progressivism as a whole, it means that not enough people are taking the time and effort to properly analyse his economic policies, which are quite frankly ludicrous and absurd. While I admit that some of his progressive policies, such as to greatly decrease unnecessary government spending, would actually help the economy, most of the policies which he goes on and on about are simply not going to work. The first absurd policy of his, which I will hopefully try to debunk here, is the Robin Hood tax on Wall Street speculators. Continue reading “Why Bernie Sanders would be bad for the U.S. economy”