Commentary / World

Central banks under siege of populism

by Yoichi Funabashi

China and the United States may now be on their way to striking some sort of a deal to resolve their trade spat, but their relationship has suffered after their negotiations hit a roadblock back in May. When things don’t go well, U.S. President Donald Trump’s approach is to blame someone, and Federal Reserve chairman Jerome Powell suddenly became the target of his attacks.

On May 14, Trump tweeted: “China will be pumping money into their system and probably reducing interest rates, as always, in order to make up for the business they are, and will be, losing. If the Federal Reserve ever did a ‘match,’ it would be game over, we win!” Elsewhere, Trump employed even more abusive language, claiming “I think the Fed has gone crazy” in response to the bank’s positive stance on interest rate hikes through the end of last year, and its scheduling of two hikes for 2019.

Trump lambasted what he called the rate hike-obsessed Fed for strengthening the dollar, thereby, in his opinion, boosting Chinese imports and damaging the U.S. economy. Last fall, the president vented his dissatisfaction with the Federal Reserve chief by saying that “maybe” he regretted appointing Powell to lead the Fed, and noted that the Obama administration (unlike his own) had operated with “zero interest” rates. In other words, Trump suggested that the Fed had curried favor with his predecessor, Barack Obama, by keeping interest rates flat, but was now punishing his own administration by heaping on the rate hikes.

This is not the first time that a president has attempted to contain interest rate hikes (especially ahead of an election). In the summer of 1984, President Ronald Reagan invited Fed chairman Paul Volcker to the White House. When he arrived there, Volcker was escorted into the library, rather than the Oval Office. Reagan and White House Chief of Staff James Baker sat there waiting for him.

Baker told Volcker: “The president would like to make sure there are no rate hikes ahead of the election.” Volcker was horrified. Not a single shred of respect for the independence of the central bank was evident in the request. Volcker had not actually been planning to raise interest rates, but he did not want the White House to believe that he had postponed a rate hike at Reagan’s request. Volcker wrote in his recently published memoir that he left the room without uttering a single word.

In the age of Trump, the Fed’s independence from the government is under even greater threat. This in itself is a huge problem, but it is hardly the only challenge facing the Fed. Former Fed chairman Ben Bernanke initiated massive quantitative easing measures in an attempt to avert financial panic, escape recession, and stimulate inflation. As a result of these measures, 10 percent of the U.S. population ended up holding 84 percent of all shares. Instead of accelerating inflation, quantitative easing exacerbated the disparity between the rich and poor. Moreover, it produced a rapid increase in asset prices (and real estate prices), which widened the generational divide between home-owning baby boomers and millennials — many of whom cannot afford to buy their own homes — and the gap between those who must live on their wages and those who can make a living collecting rent payments and dividends.

This past spring, the Financial Times carried an article with the headline: “Is Ben Bernanke the father of Alexandria Ocasio-Cortez?” The implication was that it was Bernanke’s quantitative easing that produced the current face of millennial socialism — Democratic congresswoman and former bartender Ocasio-Cortez.

Growing economic disparity is a major factor behind the eruption of fierce populism in the U.S. and Europe over the past decade. We cannot attribute this stratification entirely to the central banks, but this development is also not entirely unrelated to monetary policy. Ultimately, the central banks sowed the seeds of the populism that now threatens to engulf them.

In democracies, governments are generally expected to make the first move in responding to the voices of the weak and disadvantaged. Addressing economic disparities or the unequal distribution of assets to suppress an eruption of populism is not assumed to be the immediate objective of monetary policy. Nevertheless, both the government and society pin their hopes on effective monetary policy. And both politicians and constituents want to avoid politically painful structural reform. This makes monetary policy “the only game in town.”

Central banks thus confront a dilemma. They cannot win popular support by simply barricading themselves behind their “independence” from government. In such a case, the central banks will be branded “them,” (not “us”) by the forces of populism.

And the government — because it has been captured by populism or simply overreaches — will attempt to interfere with the central bank. It will continue with reckless fiscal spending, and zero-interest government bonds will be issued indefinitely. Both the government and its citizens can grow accustomed to this type of reciprocity.

In his recent book “My 39 Years as a Central Banker,” former Bank of Japan Gov. Masaaki Shirakawa uses the term “social dominance” to describe how central banks, “under collective social pressure,” end up “immediately doing their utmost to pursue policies that are expected to have even some efficacy in the short-term.”

If central banks overreact to the expectations of and pressure from society and concentrate solely on policies with short-term efficacy, they may damage medium-to-long-term “macro prudence,” and complicate prospects for sustainable economic growth.

Yoichi Funabashi is chairman of the Asia Pacific Initiative and a former editor-in-chief of the Asahi Shimbun. This is a translation of his column in the monthly Bungei Shunju.