President Trump's Fate Lies in the Hands of the Fed

Setting the Stage

To set the stage a bit, one must consider a few economic facts. Well, two to be exact.

As most of you are well aware, the Federal Reserve has three primary objectives which it must pursue as mandated by the U.S. Congress: maximizing employment, stabilizing prices, and moderating long-term interest rates. The first two are often referred to as the Fed's dual mandate. In this piece, I will focus on the dual mandate. 

Let's take a measurement of how well Fed policies have worked over the last ten years, vis-à-vis the dual mandate, by way of some charts, courtesy Further, we will assess where Fed policy is likely to go in light of where it has gotten the U.S. today.

To begin, we will assess unemployment.

Clearly, the Fed's policy of QE and nearly ZIRP has worked very well over the last ten years if one assesses the Fed's policies through the lens of unemployment. Further, inflation has hovered right around 2%, the target rate at which the Fed wishes inflation to run.

Now, I know what many of you might argue. The Trump Administration has ignited this economy through lower taxes and deregulation. Far be it from me to tell you that you are wrong. My only objective in sharing these basic charts is to illuminate the fact that at this stage, the Fed's success warrants a certain response, which has been well documented and acknowledged by many an economic and financial pundit over the decades of the Fed's existence.

Most notably, former Fed Chairman, William McChesney Martin, famously quipped that the job of the Federal Reserve is "to take away the punch bowl just as the party gets going." That is, the Fed raises interest rates when the economy begins reaching peak activity, and it seems peak activity we have reached.

With employment at an all time low, inflation around 3% in 2018, and GDP prints at the highest in years, the Fed, in lockstep with the musings of Bill Martin, has continued to raise interest rates.

Yes, rates have been on the rise, and along with the rising rates, the punch bowl has been slowly getting taken away, much to the chagrin of President Trump who faces re-election in approximately 18 months.

President Trump's Strategic Response To Rising Rates

President Trump has made it expressly clear that he is unhappy with the actions of the Fed in raising rates at the rate at which they've been raising them. Whether it is the right decision to raise rates is for you to decide based on the data presented in the above charts and your own indicators, such as the bond markets.

President Trump all too well understands the quip of Bill Martin, and he also understands that if the Fed in fact removes the punch bowl during his first term, the President will be reeling in the polls come election time in 2020. 

With this in mind, President Trump has taken strategic action to avert the actions of Fed Chairman Powell through his aggressive trade policy that he bills as an endeavor in pursuit of nurturing certain ailing U.S. industries (while it may be, I don't believe it's the entirety of his motives as I will elaborate).

To put it all together, President Trump is creating economic skirmishes intentionally; in the sense that, he understands what his low tax, deregulatory policy will create: a white hot U.S. economy. He understands that we have reached peak economic activity, and the Fed should act in response to reaching such a level of economic activity. And he wants to stifle it to a degree, while simultaneously accomplishing his stated objectives of making the country's manufacturing and other blue collar industries great again.

It's a win-win! His tariff battles nurture the ailing U.S. industries, many of the constituents of which elected him, and he cools the economy without the help of the Fed, whose tool for cooling would be far less precise. That is, raising rates causes global economic slowdowns due to the world's dependence on dollar denominated debt, which becomes more difficult to service and obtain when the dollar strengthens due to higher interest rates. King dollar truly rules.

President Trump's tweets further support my claims, as he has, on numerous occasions, brow beaten the Fed through twitter, demanding that rates stop rising.

Mr. Powell Responds, Much To President Trump's Liking

In the Fed meeting on Tuesday, Mr. Powell hinted that he'd be willing to cut rates if the U.S. economic outlook were to dim as a result of escalating trade tensions. In response, the stock market rocketed approximately 4% in 24 hours, from a little over 273 to nearly 283.

Powell stated, “We are closely monitoring the implications of these developments for the US economic outlook and, as always, we will act as appropriate to sustain the expansion."

Oh boy, President Trump must've been giddy like a school girl while listening to Mr. Powell on that day.

Implications of President Trump's Game of Chess

The implications of the current political posturing from the President and from the Fed are enormous. They truly cannot be understated, as the events that will transpire over the next 18 months will determine the political direction of the U.S., and as a corollary the rest of the world.

Should President Trump's strategy fail and should Mr. Powell not cooperate (and potentially make a policy error causing systematic risk), President Trump very well may not be re-elected, as his self-avowed score card, the stock market, will likely continue about in its current malaise. As a result, new policy makers from the more radical, socialist-leaning democratic party will likely emerge as viable candidates with real chances to win the presidency.

Can you say less competitive corporations, fewer jobs, higher taxes, slower economic growth, and a farewell to higher dividends and share repurchase programs? 

With the stakes of the game steepening everyday, as socialists gain more traction in the U.S., it's important that President Trump strategizes well, executes better, and gets a little help from his friend at the Fed, Mr. Powell. 

How Will The Cards Fall?

From here, it cannot be certain as to exactly how everything will transpire; however, I will leave you with a couple considerations, one of which is more conspiracy oriented, and the other of which is outright reality that will either play in President Trump's favor, or it won't.

Fed Chairman Jerome Powell is not absolved from certain biases whether consciously or subconsciously. President Trump appointed the man, and he has a background in investment banking. Just as Dick Cheney was much more predisposed to favor entrance into a war with the middle east as a result his background in defense contracting, so too might Powell be predisposed to support economic and foreign policies with which he agrees, whether consciously or subconsciously.

Whether the above will factor into Mr. Powell's decision making process is up to you; however, what will factor into his decision making process is the degree to which trade tensions impact the U.S. and global economies. Fed Chairman Powell may just yet acknowledge that these economic skirmishes warrant a rate cut, which will send the stock market soaring; after which President Trump will begin signing deals left and right. 

Just in time for re-election.

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