In the short term, the Federal Reserve's job is straightforward. Raise or lower interest rates in order to meet its employment and inflation targets. But over the years, it has evolved to do a lot more than just set the price of short-term bank borrowing. With each successive crisis, the Fed has taken on new powers and responsibilities to stabilize finance, markets and the broader economy. And with Washington characterized by partisan gridlock, the Fed is seen as the one entity that can actually move with some agility when it's needed. On this episode, we speak with Jeanna Smialek, a Fed reporter at the New York Times, and the author of the new book Limitless: The Federal Reserve Takes on a New Age of Crisis, about the history of the Fed and how it became so powerful. This transcript has been lightly edited for clarity.
Key insights from the pod:
How has the Fed’s role changed over time? — 5:29
What does ‘Fed independence’ actually mean? — 7:07
Constraints on what the Fed can do — 13:38
Can the Fed lose its fire power in markets? — 18:13
The muni backstop and fiscal policy — 20:14
On the Fed can stepping in where politicians won’t - 23:11
What should ‘guard rails’ on Fed power look like? — 27:36
On Fed ‘conservatism’ — 31:50
The threat of partisan politics at the Fed — 37:42
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Joe Weisenthal: (00:10)
Hello and welcome to another episode of the Odd Lots podcast. I'm Joe Weisenthal.
Tracy Alloway: (00:15)
And I'm Tracy Alloway.
Joe: (00:17)
Tracy, do you remember after the great financial crisis and the Fed couldn't get the unemployment rate down even with all the rate cuts and people were talking about like monetary policy is pushing on a string in this environment? You remember hearing that term a lot?
Tracy: (00:30)
You know what, I remember? I remember people complaining about below-target inflation for many, many, many years and how the Fed, we couldn't figure out why the Fed wasn't able to push up prices. And now fast forward to, you know, 2023, we can't figure out why the Fed can't bring inflation under control.
Joe: (00:48)
I don't want to insult the various like brilliant economists and pundits out there -- I never would -- but I always found the complaints about too low inflation to just be hilarious as if there was ever a real problem that anyone in the world faced. But I do think it's interesting, you know, this pushing on a string narrative, everyone sort of assumed that, okay, maybe it's hard for the Fed to get unemployment down, but that if inflation were to accelerate, well at least we know how to deal with that.
Tracy: (01:18)
Yeah. But at the same time, there was this weird sort of discrepancy or tension because the Fed couldn't figure out how to push down employment or push up prices at that time, but it seemed to do a reasonably good job of intervening in markets. And this was the chorus that you heard for so many years the Fed is coming in and distorting the markets, which, you know, tacitly admits that they do have an impact there.
Joe: (01:50)
Yeah, I think that's sort of like one thing that everyone agrees on, especially in the wake of, you know, the massive spasms in March 2020. And then of course also in the wake of the great financial crisis, the Fed is pretty good at stopping financial crises, when there's a run on some sort of bank, if it so chooses that like maybe the Fed can't get inflation to target when it [wants to], maybe it can't get employment at maximum employment, but it can definitely stop bank runs.
Tracy: (02:17)
Well, the other thing I would say, and we should stop talking soon because…
Joe: (02:21)
We need to get to our guest?
Tracy: (02:21)
Yeah. We could keep going forever, but I think people forget how much things have changed in the span of, let's see, 14 or 15 years. Because I remember writing about the corporate bond market and it was like, ‘Ooh, maybe one day the Fed will have to come in and bail out the corporate bond market.’ And that was the worst thing that could happen. I got so much pushback on that. And then lo and behold, 2022 happens and the Fed comes in and rescues not only the corporate bond market, but Treasuries, munis, pretty much everything -- and it's sort of an accepted state of affairs now.
Joe: (03:00)
Right. And of course, this is one of the things we talked about in a recent episode, our live episode with Lev Menand and Josh Younger. Anyway, let's get right to it. Let's talk more about how the Fed has taken on these new powers, these new responsibilities, what it can do, what it can't do. We are going to be speaking with Jeanna Smialek, Fed reporter at the New York Times, also a former Bloomberg colleague of ours, and the author of the new book, “Limitless: The Federal Reserve Takes on a New Age of Crisis,” which I see is number one in the Amazon money and monetary policy category. Jeanna, thank you so much for coming on Odd Lots.
Jeanna Smialek: (03:37)
Thank you for having me.
Joe: (03:38)
Congratulations on the new book. You know, I'm curious about the title – “Limitless” -- and obviously we talk about like okay, these new powers that the Fed has taken on both in the wake of the great financial crisis and also the Covid shock. And yet there does seem to be a limit on its actual dual mandate, as in, does it even have the tools to do like the two things -- max employment and stable prices -- that we think of as being the Fed’s core mission.
Jeanna: (04:05)
Yeah. So I think they're actually fairly interrelated. So the title itself actually comes from something Chair Jerome Powell said during sort of the depths of the 2020 pandemic upheaval. You know, he was doing an interview with David Wessel at the Brookings Institution and David asked him, you know, ‘is there a limit to how much the Fed can do to sort of save all of these markets that are crashing?’ I'm paraphrasing, but that was the gist of it.
And he said effectively, you know, ‘no, there's no limit we can do. You know, as much of this as we need to within the confines of the law.’ And so I that's, that's where the title draws from and I do think that's relatively accurate, you know, in the sense that these emergency powers that they use to save markets, like Tracy was just alluding to, [are] very broad, very comprehensive, can be stretched in a lot of ways.
And that's a lot of what I talk about in the book. But then at the same time, you know, when you are busily stretching those in all the ways that you're stretching them, it doesn't necessarily sort of guarantee a smooth on ramp back to solid growth and stable inflation when we get to the other side of a crisis.
Tracy: (05:07)
Hmm. Maybe just to go back in time a little bit, and this is one of the themes that emerged from our conversations with Josh Younger and Lev Menand, but this idea that the Fed’s mandate and its role has really changed over time. Can you talk to us about, you know, what was the original conception of the Fed versus what it is today?
Jeanna: (05:29)
Yeah, so I spend a huge amount of time of on this in the book because I think it's just so interesting and I think the upshot is basically the Fed as it is today is not the Fed as it was originally envisaged in 1913 when it was set up, in basically anyway. 1913 Fed was set up to be a really limited institution that was basically going to come in and prevent runs on the bank, which were a very frequent characteristic of society in that time.
We had just had a bunch of big financial crises, including a very painful one in 1907 that caused a very bad recession. And so that was sort of the idea is we need some sort of institution that can both sort of make money more organized and make sure that it's not getting stuck in Tallahassee when you need it in somewhere in the middle of Kentucky.
And we need an institution that can make sure there's sort of a lender of last resort, somebody who can back up markets in times of crisis. So those emergency powers always kind of there, very limited at the outset. The monetary policy powers really not there at the outset because we were, if you recall back, you know, we're on the gold standard, that sort of had some sort of self breaking mechanism, we regularly dropped the gold standard. So I mean it was not some cure all solution for inflation, but just the way we thought about inflation in society, very different at the time. And the Fed didn't have such a developed role in sort of regulating the speed of the economy back then.
Joe: (06:48)
Fed independence is a term that you hear a lot and I feel like it has different definitions and different contexts. But can you talk about where did this term come from and what did it mean? What is this idea? What was the purpose of it? What do people mean and where did it originate from?
Jeanna: (07:07)
Yeah, so we need to do a little bit more history here. So you get up through the 1930s and the Fed has really kind of figured out how to actually do some macroeconomic management. They sort of figure out that if you buy and sell bonds, it can guide interest rates into place. You can either speed up the economy in slow times or slow it down when you need to.
And up into the 1950s the Fed really starts to take on sort of this inflation management job. And what we see in the 1950s is the Truman administration is really leaning on the Federal Reserve to keep interest rates very low, to try and sort of buy bonds, use its ability to print money effectively to help sort of fund war efforts. Fund, you know, the fiscal policies that they want to do.
And the Fed is very concerned about inflation. And so we see this real rebellion at the Fed where they work very hard to wrestle their wrestle control over their policies back. Marriner Eccles, who's one of the sort of important pivotal figures in early Fed history, actually ends up releasing an account of a very sort of tense meeting between the Truman administration and the FOMC to the press. It embarrasses the administration. The administration decides to come to some sort of agreement with the Fed.
And we get this 1951 Fed Treasury Accord, which really hands the Fed a lot of independence over monetary policy. A lot of ability to not necessarily set the targets itself, you know, it, it still has to aim for maximum employment and stable inflation as Congress eventually defines, but it does get to decide how it's going to go about those jobs completely independent of the partisan process.
Tracy: (08:40)
So it's funny you're talking about this because I wrote about it and we talked a lot about it with Josh Younger on that episode about the origins of the shadow banking system and sort of the modern financial system as well. But just to back up slightly, when we talk about central bank independence nowadays, we generally talk about it as a good thing.
And it's often considered a hallmark of a developed economy versus say in an emerging market with perhaps more institutional weakness where the central bank might be pressured to do whatever the government wants. Why is it desirable to have an independent Fed that is perhaps a little bit more free from the types of political considerations that you would see in elected politicians?
Jeanna: (09:26)
Yeah, I think a huge part of the reason we treat it as sort of the gospel that it is, that Fed independence should be protected at all costs, traces back to the 1970s. So in the 1970s we had an inflation situation, not hugely unlike the one today, originally caused by some supply issues, some excess demand issues tied to war efforts. And it just lasted for years and years. And the Fed would occasionally raise rates to try and bring it back under control, but then when unemployment went up they would quickly lower the rates again and they just never got a handle on it.
Historians, economic historians, think that part of the reason for that is Burns -- then the Fed chair -- was really caving to the Nixon administration. Nixon was very nervous about reelection. He wanted rates to stay low, low rates translates to low unemployment. And so that was sort of the conceit and it's pretty clear from tapes that were released after the fact that Burns -- a huge Nixon loyalist -- did in fact take that into consideration when setting monetary policy.
And so the idea is you just don't want to have these short-term political considerations in place when you're doing something as important and potentially painful as fighting inflation because it could sway your decision-making in a way that allows inflation to become sort of entrenched in the economy. And we really saw in that episode that it was very difficult to get inflation out once it had been so ingrained in the economy. There was what people now refer to as this inflationary psychology that got just sort of really dug in, and took a big recession to wipe out.
Joe: (11:12)
Let me sort of zoom up a bit towards the present day and, we are happy to go back like into the history because I think it’s interesting, but one dynamic that feels real, and tell me if I'm wrong, is that one nice thing about the Fed is that it can sort of just move and that there is, I think people have very low expectations for what Congress can do on anything these days. It's sort of like every once in a while you get a window where one party controls the White House and both houses of Congress and then they have a limited political capital to spend. Whereas in theory the Fed can just move very fast. And we saw that in the middle of March 2020 for example, how much of the sort of accumulation of powers that the Fed has, particularly over the last 15 years, during a period of like deep partisan division, is simply a function of, well it's one institution in DC that is not riven with partisan gridlock?
Jeanna: (12:08)
Yeah. So I think this is sort of the central conceit of my book is we've built up all these powers over time basically because they always made sense in the moment and now we're using them all simultaneously because of the situation in Washington. And so I think, you know, everything we've talked about so far, so 1913 were set up to guard against banking crises. 1930s we really deepened those powers to guard against banking crises because that's the problem of the day 1950s.
The problem of the day is increasingly inflation. 1970s, that is the big problem. And so you have sort of these like ebbs and flows where everybody's focus, everyone at the Fed is focused on banking crises, then everyone at the Fed is focused on inflation. Suddenly we get to the modern era and everything is suddenly the Fed’s job. You know, we're very concerned with sort of the monetary policy management portion here. But we're also using them pretty aggressively to fend off financial crises and moments of financial crises.
And I think a lot of the reason for that is because some of the things that they can do in moments of financial crisis are a lot easier than coming to some sort of agreement Capitol Hill on either a bank regulation that might preempt some of those financial problems or B) some sort of, you know, bailout for the institutions that are a problem.
Tracy: (13:15)
So it's a small miracle whenever Congress manages to pass a law and yet the Fed can announce like a trillion dollar program, it seems, almost overnight. Why is that? Talk to us a little bit more about the process and what limitations, if there actually are any -- I guess the clue is in the name of your book, “Limitless,” but if there are limitations or constraints in what the Fed can do?
Jeanna: (13:38)
Yeah. So there are some limitations but I think that they're actually often exaggerated even by the experts who know a lot about this. So in moments of extreme crisis, the Fed basically has to get a declaration that we are in an unusual and exigent circumstance and it then has to get sign off from the Treasury secretary in order to set up an emergency lending facility to help an organization or entity.
The facility has to be broad-based, which lawyers generally think means about five institutions would have to be able to tap it. And the Fed has to be secured to its satisfaction, which means that it can't expect to lose money depending on what other, whatever it's defining as its satisfaction. Most lawyers at the Fed will tell you that this means they can't lose money. Lawyers outside the Fed will say that's kind of dicey. We're not actually sure that that's true.
Tracy: (14:25)
I mean that has always seemed to be really fluid because I remember post-2008 when the Fed was doing one of its bond buying programs, it was buying mortgage-backed securities (MBS) and it said it was only buying investment-grade MBS. And I remember looking up each individual Cusip for like a week and seeing that some of it wasn't investment grade when the Fed bought it, but it didn't seem that concerned with that aspect of the program.
Jeanna: (14:52)
Yeah. And that was actually technically QE, but I think the same basic rules supply. With these emergency lending facilities, they really are pretty broad though. So I think a really interesting example here that comes up a lot is, there was this one program with the nerdiest name of all time, I think, because nobody wants to talk about it, but it's the Term Asset Loan Facility. And basically what it does is it buys, it takes on as collateral bundled loans.
Tracy: (15:16)
TALF! I remember TALF, yeah.
Jeanna: (15:17)
Yeah. And so we used it twice, we used it in 2008. We used it again in 2020. The 2008 version was collateralized by the private sector. The Fed didn't have any government money backing that up. And that's always sort of the idea is that, ‘oh well there's some constraints in here because congress has to appropriate some money to like back up these facilities.’ That's clearly not technically true based on the way we've actually done this in the past. And so I think there are fewer limits than maybe we appreciate.
Joe: (15:43)
But the one thing that does seem to be a real limit is the Fed doesn't really have a way of just like giving households buying power, which of course was a really powerful aspect, it would seem of the V-shaped recovery we saw coming out of 2020. It was a probably a big aspect of the very slow recovery we saw out of 2009, the very modest fiscal stimulus, especially in retrospect, not even a trillion from the Obama administration.
And it feels like a lot of the frustration that people have towards the Fed is that it does in some sense seem to be limitless designing these new programs. But actually the one thing that might actually move the dial big time or meaningfully from a macro perspective, [is giving] people money that's still like the one thing they don't really have any way of doing.
Jeanna: (16:28)
Right. Lending not spending, is sort of the phrase Jay Powell repeats ad nauseum. They can lend, they cannot spend. You can do lending in ways that look a little bit like spending. You know, I think we saw some push to do that during the depths of 2020. There were some ideas about making loans to municipalities really long-term and really low rate and we didn't actually see them take up that up too much.
I think they still very much see themselves as backstop entities who shouldn't be used in that way because it's just too close to fiscal policy. But again, I think that's more of a personal choice that's being made versus something that is like necessarily legally extremely required. Which I think is an interesting thing to talk about. And I think that, you know, the interesting thing to watch is how are these programs used in the future? You know, will they continue to see them as this backstop? Do they think this fiscal separation is very important?
Tracy: (17:21)
So just on that topic, I mean one of the things that you will sometimes hear people and markets talk about is this idea of the Fed getting bang for its buck. And I guess it was most salient maybe with the corporate bond buying program where they announced, you know, ‘we could spend this much buying up corporate bonds to stabilize the market.’ But in practice, I can't even remember the exact number, you might know it, but it ended up being a fraction of the announced amount that they could do.
And just by virtue of saying that they were going to backstop the market, they brought in credit spreads very, very dramatically. Is that always going to be the case? Or is there a possibility that as the Fed takes on more and more responsibilities and if it maybe has to use these things over and over again, that sort of fire power starts to dissipate?
Jeanna: (18:13)
I think this is such an interesting question and I do not pretend to be enough of an expert at markets to have a great answer to it. But I've talked to a lot of people about this and I think you actually get a range of opinions. There are some people who say, you know, they're such a credible lender of last resort that this is basically going to stay this way. That, you know…
Tracy: (18:32)
It’ll work forever…
Jeanna: (18:35)
Yeah. People believe them. I think other people will sometimes point you towards some of the Treasury market dysfunction that we saw really early in the crisis where it didn't seem like people were being completely reassured. And I actually think that's an interesting distinction because I think that speaks to sort of market fragmentation.
You know, just to sort of rewind the tape here, back in 2020, people were dumping Treasuries. It wasn't like one or two entities and they weren't necessarily all US-based dumping Treasuries. It was everybody, it was hedge funds who had basis trades on it was a lot of international holders. A lot of the selling was coming out of like the Cayman Islands.
And so I think there was this real sort of signal problem where the Fed might be stepping up, you might be pretty familiar with what the Fed’s doing, but there was this idea, you know, how aggressively are they going to do this? Can we trust them? You know, there's so many entities having trouble coordinating at the same time. And so I do think those market structure issues kind of do matter because Fed efficacy could be different if market structure changes and becomes more fragmented. Hmm.
Joe: (19:31)
I want to get back actually to the muni backstop that we saw in 2020, which was a pretty novel, you know, further extending of the power, kind of a novel policy intervention. And one of these areas that did seem to [get to the question of] is this fiscal policy, is it monetary policy? It's kind of fiscal if you're allowing fiscal authorities to spend money, you know, in obvious ways.
But the question I have is when they're thinking about, ‘well, where is the boundary? Where is the border between what monetary versus lending [is]? And I've asked this question to others and I'm still trying to wrap my head around it. Do they think about where they want to go and then backfill the legal justification? Or do they look at the law and then determine how far the law allows them to go?
Jeanna: (20:14)
Yeah. So I think we've seen that vary somewhat by crisis. I think in 2008, I would say it was definitely the latter. And I actually think that's pretty well documented at this point. Like I think if you read like the more recent Bernanke book, for example, I think that pretty clearly…
Joe: (20:30)
They took very seriously, very seriously this idea that there were things they might have wanted to do that they couldn’t?
Jeanna: (20:36)
Well they knew what had to happen. I think they knew what had to happen and they were really trying to figure out how they could accomplish that within the confines of their own legal mandate. I think that in 2020 it was some combination of they knew what they were capable of based on the 2008 experience and they were kind of looking for places that you might need to build on that given the sort of unique circumstance that was 2020.
The municipal program though, that you mentioned, I think was a particularly interesting example because they had literally said for basically years at that point that they were not going to do municipal bonds. Right. That likes, similar to what you said about the corporate bonds Tracy. They had been very clear that this was not a market party.
Tracy: (21:15)
Right, it was like crossing a Rubicon that they didn't want to do. And I think they explicitly said that at some point.
Jeanna: (21:21)
Yeah. Rashida Tlaib asked them about it, a freshman Democrat, asked Powell about it on Hill in 2019 and he was basically like, ‘we don't have this power nor do we want this power.’ And then kind of, you know, very interestingly, April 9th, 2020 and they, you know, jumped, jumped right into that market.
You know, the municipal Obama market was in shambles when they jumped in, it was really bad. People were really struggling to issue states and localities. The CARES Act has just passed, we're not sure if it's enough money. States and localities really need money because of the pandemic's onset, you know, it was a tough moment. And so I think that it's not a surprise that they saw the need, but it was interesting that they thought they could fulfill it.
Joe: (21:58)
Well, it definitely reminded me at the time of the ECB’s OMT program where the ECB said for years ‘we can't lend to member states, we can't lend to member states.’ And then when things are really falling apart, they're like, ‘well we can, and the reason we can is because if member states don't have a borrowing capacity, then we can't really fulfill our monetary mission.’ So it is sort of like backfill in a new power based on the law just because they kind of realized that the existing thing was untenable
Tracy: (22:25)
When the facts change, I change my mind or whatever that quote was. But you know, a lot of what we're talking about is the sort of the mixing or maybe overlap between monetary policy and fiscal. And so I want to ask a devil's advocate question and I want to make very clear that this is a devil's advocate question, but you know, why couldn't we have a situation where if congress is gridlocked and politicians can't do anything, for instance with the debt ceiling, why couldn't we have the Fed say that it is going to support a particular thing or mandate, like maybe they want to finance a bunch of renewable energy or maybe they want to finance a lot of infrastructure or something like that. Why would that be bad?
Jeanna: (23:11)
Yeah. So I think that there are some people who think that that would actually be great and we should do it and you know, we have this amazing tool at our disposal and why shouldn't we use it basically. And that is one argument.
I think there's another side of this story that basically says you wouldn't want to do that because if the Fed is seen as a really partisan actor, if they're doing things that one side of the aisle really feels strongly shouldn't be happening, you could see a situation where A) they face a lot of backlash on the Hill that eventually results in them losing this prized independence that we've just talked about.
Or you could see a situation where they're just sort of less trusted as an entity and these are a bunch of unelected officials, right? Their sort of mandate, whatever legitimacy they have in our democratic system kind of ties back to this idea that they're honest brokers nonpartisan trying to be center of the aisle.
Tracy: (24:01)
Joe's face when I was asking that question, by the way, I could tell that you were waiting for me to ask about the trillion dollar coin.
Joe: (24:08)
Yeah, because you said debt ceiling and so I got really excited. Wait, alright, so
Tracy: (24:11)
But wait, wait, wait. I would just say Jeanna's response there, this is the reason why I think the trillion dollar coin is actually problematic because it's one thing to say ‘well, I agree with them doing it this time,, but what about the next actor that comes in? You know, you might not necessarily agree with it then.
Joe: (24:28)
Yeah. Mint another one, but, alright, we're actually, we're going to put a parenthetical on this part of the conversation. At any point in the researching of your book, did you glean any insight into whether the Fed would accept a trillion dollar platinum coin? Did this come up at all in your research?
Jeanna: (24:44)
No, it did not. Okay. It did not. And I will say I've spent a lot of time recently rereading all of the old transcripts around debt limit. I don't think there's going to be a lot of appetite over there. I'm sorry to tell you.
Joe: (24:56)
Well when the alternative is blowing up the economy as we know, suddenly things change, suddenly appetites change. But I do want to get back to actually, I mean I thought Tracy's devil's advocate question was pretty legitimate.
And you know, there is this sort of an argument you sometimes hear from certain types in DC -- I never totally bought into the logic, but I'm curious for your take on it, which is that when the Fed does things like these extraordinary emergency measures in March 2020 or in 2009 or whatever, that it's kind of bailing out politicians and that the Fed should say no.
Like if you want to have sound cities and states that don't have to lay off all your workers, get together and pass a law to bail out cities and states or whatever it is. Or even you heard this in, you know, just with rate policy in the mid 2010s where they're like, ‘no, Congress should be using fiscal tools and if we keep cutting rates, that's mostly good for the stock market and the rich and it's not really great [for others], and the Fed should say, we're not going to just cut rates because Congress won't do its job and pass more pro-growth policies.’
In your view, does that reverse feedback mechanism theoretically exist where if a theoretical Fed chair wanted to say, we are not going to do ‘X’ because we want to force elected officials to do what elected officials should do, could it play a role in preventing politicians from just sort of passing on these problems to a third party?
Jeanna: (26:25)
Yeah, you know, I think it's a really interesting question. I don't actually think that it has a simple answer, partially because you just talked about a lot of different policies and they probably have different applications, but also because, you know, I think that these issues are probably pretty case by case.
We're working with different Congresses, we're working with different policy tools and I do think that that just makes things very messy. And I think actually one thing I try to communicate in my book, which I think you can do pretty nicely in a book, in a way that you can't necessarily do in a news story or anywhere you have to be brief is, a lot of these choices are just really difficult.
Sometimes there are no good alternatives, if you're the Fed, what you're doing is going to enable some bad behavior by either a politician or a market actor. But if you don't do it, you risk some pretty serious problems. And I think there's no clear rubrics sometimes and I think that's really interesting and I actually think that's a good reason to talk about these kinds of responses after they happen and sort of plan for them in the future instead of waiting and making all of these decisions in a crisis. You know, I think to the extent that you can pre-plan for this stuff, it could make it make those decisions a little bit less ad hoc when they're happening.
Tracy: (27:36)
Yeah. And it definitely feels like it's true that having had the experience of 2008, the Fed was better prepared or at least more willing to sort of roll out that emergency playbook in 2020, which was probably very helpful. Just going back to the idea of Fed independence versus sort of efficiency and expediency, what should guardrails on the central bank's power actually look like?
Jeanna: (28:02)
Yeah, so I distinctly did not take a position on this in this book because, you know, I don't think it's my job necessarily as a journalist, but I will say I think, you know, you hear proposals from a range of experts who study this and do have opinions on it that I think are interesting to at least talk about.
You know, there are some people who think that there shouldn't be guardrails and that you should actually make more ambitious use of this, that you should think more about how to use these policies expansively. There are some people who think that you should apply more of a sort of formulaic approach to these. Like there should be some sort of trigger for when you use market functioning. QE, for example, is one thing I've heard as a proposal. And then there's some people who think that there should just be more explicit coordination.
Like something should trigger a moment of coordination between the fiscal authority and the Fed in an even more coordinated way than just having a Treasury sign off. You know, for example, if the Fed is doing market functioning QE, the Treasury should immediately be involved in that. And so I think those are some of the things that you'll hear people say. I think that, like I said, I think this all just deserves a little bit more debate than maybe it's gotten in the wake of 2020 because these tools are so powerful that it seems likely they're going to be used again.
Joe: (29:10)
Well, you know, we're, we're recording this actually on March 7th and you know, there was just a Powell hearing on the Hill and some of these questions, it was in front of the Senate, and some of these questions came up from both sides, about climate in the Fed and how the Fed thinks about climate risk.
And you have conservatives saying like, ‘why should the Fed be anywhere in the business of anything to do with climate?’ And then you have others and say, ‘well, climate is the risk to the economy and there are various reasons why climate could [matter],’ but again, I'm curious in sort of this broader question of how much does the Fed sort of, even on these very long sort of non-acute things become essentially this like sink where all these fights end up becoming Fed-related because it's really hard to pass anything climate related or it's really hard to pass anything related to sort of like racial justice right now. So all of these things become Fed issues because we have so little hope that Congress can do anything about them.
Jeanna: (30:08)
Yeah. And I think that they certainly have to some degree become Fed issues. We certainly talk about sort of racial wealth equality. And we certainly talk about sort of the climate risks and climate finance in the context of the Fed. I think the interesting thing, and I think you kind of alluded it to it earlier, is that the Fed can't always do so much in these domains. And so sometimes I think there is this risk that you have a false sense of security where you feel like, ‘hey, the Fed is kind of on this’ and actually the Fed’s tools are just poorly equipped to handle this.
Joe: (30:56)
You know, it's interesting because for all of the expanded powers and the new areas that they've gotten into with each crisis, there does seem to be a pretty deep conservatism. And I don't mean it in the right-left sense, just sort of institutional conservatism.
Just going back to like the dual mandate, like 2% inflation seems pretty sacrosanct. They, post-2010, they’re like ‘oh, six and a half unemployment, is that full employment?’ Like six and a half percent unemployment's pretty high, but you know, some early indications that maybe that would be enough.
Why is that aspect of the Fed, you know, Janet Yellen, who I think many would consider to be a sort of dovish policy maker, never seemed to be particularly comfortable with the idea of letting it run hot at the time. Why is that aspect one area in which you don't see a particularly like a lot of creativity about?
Jeanna: (31:50)
Yeah, so on the inflation side of things, I think that we probably were headed in the direction of a little bit more creativity before this episode actually. You know, they didn’t sort of changed their inflation target in the sense that they made it, they gave it a look back period, they made it an average over time.
I think we're getting like pretty close to that with just like actually nudging it up a bit. But we didn't get there. They certainly didn't do that, but I think that there was sort of like, you know, not a thousand flowers were blooming, but a few more flowers were blooming
When it came to the inflation target on the employment side of things, I would say that they are conservative in the sense that they still think about the world through a sort of very Phillips curve framework, meaning that there's some trade-off between employment and inflation, but I think that they've become a lot more modest about their ability to understand that Phillips curve and it's difficult to say ‘they’ here because we're talking about, you know, 19 policy makers and this applies to each of them a little bit differently.
Some of them are still pretty devoted adherents to the idea that they can specify some sort of natural rate of unemployment. But I think a lot of them, and including the chair importantly right now, have become a lot more skeptical about the idea that you can like credibly predict how low unemployment can go without causing inflation at any given moment. And so I do think some of that conservatism has actually waned with time. This episode obviously throws big wrench into that.
Tracy: (33:16)
Right. I mean, you do get the sense from policy makers now they are more open about saying ‘well maybe there is something particularly about inflation that we are missing here.’ And I think we've had one or two people on the show who've talked openly about that.
But this actually leads into something else I wanted to ask you, which is with that realization that perhaps there's something about the Phillips curve that's changed or that we don't fully understand as policy makers, and also with the evolution of the Fed’s role in the financial system and markets, how do Fed officials themselves feel about this? Presumably you talk to current and former ones. How do you know, explain it and how do they talk about it?
Jeanna: (33:59)
Yeah, so I think a lot of times when you talk to Fed officials about this, you will hear some amount of concern actually that if you ask the Fed to do too much, it won't be able to do anything well. So I do think that that is a thing that they're very attuned to and that's not, I mean, that's not a huge surprise.
I think they kind of gave us some hints of that in sort of that 2015 hiking cycle that you were previously talking about when Congress just wasn't passing anything to help the economy along. And, you know, you would hear Fed officials occasionally say that out loud, but I think after 2020, I think there was still some feeling that you just don't want to push too much on the Fed. Not everything should be the Fed’s job.
I do think when it comes to sort of the framework and the ‘how do you think about the economy in this brand new world?’ I think, you know, the jury's just not out yet. They're still trying to figure out what went wrong in 2020 and 2021. And they're still trying to figure out what's going wrong now because they don't seem to be getting this inflation under control as quickly as they had expected to, I think. So I think it's just a situation in flux.
Joe: (34:57)
How much of the rapid movement, and it was basically day after day in early 2020, their ability to roll out these new programs, how much easier was that because of scaffolding basically that was built in 2008 and 2009 and how much specifically [did] the work of like Bernanke working with Geithner, etc., enabled Powell and Mnuchin together to move as fast as they did?
Jeanna: (35:21)
So I think that there, I'm actually going to give a two part answer to this. Part one is definitely the scaffolding mattered a lot. A) they kind of had a pattern for how this could work and B) they had some ability to not make the mistakes that happened in 2008. Like for example, they kept better track of these programs and were very transparent about them.
They like told us what they were buying not at a five-year leg, but just immediately, and B) they got congressional backstop for every single one of the programs that mattered. It wasn't like what I described earlier in 2008 when they used private sector money to set up the Talf. And I think the reason they did that is because they thought that there was some sort of democratic legitimacy to having that sort of, you know, buy-in. Also, it's easier, it was an easier setup. But I do think the democratic legitimacy part mattered there.
And so I think we learned a lot of lessons from 2008. Part B) though, I would say, is while they learned a lot of lessons in the scaffolding mattered, they had to set up a bunch of new programs that they had never tried before. Municipal, main street lending, etc., etc..
And I also think that they had really not been anticipating that they were ever going to have to use the 2008 programs again. For example, money market mutual fund program -- that took a ton of effort, a lot of late nights, a lot of huge scrambling to get set up because they just, money markets had changed so much in the interim and they hadn't really like been keeping up with it. There was no design ready to roll off the counter for this program. And so it did require a lot of last minute sort of legal, you know, finessing,
Joe: (36:51)
You know, looking forward, obviously there's always people who complain about the Fed from everything that's not new. Years ago, you know, you had the sort of abolish the Fed types, audit the Fed types, various attacks on it from different angles, but it more or less seems to operate and by and large, I get the impression that politicians have other things to worry about that are, you know, that play better on TV than like, you know the arrangement of monetary policy.
Do you perceive any change to the trajectory of the Fed, either your institutional setup? I mean it seems like this sustained period of high inflation, maybe not great for the Fed’s standing within politics within DC, but do you see any like real threats on the horizon to the sort of modus operandi of monetary policy in this country?
Jeanna: (37:42)
Yeah, so I think actually A) I think the sort of little ‘c’ conservativism that you were talking about earlier helps them a little bit in this regard. I think when you're boring, when you just bore people to death, it makes them less likely that they are going to come and meddle with your Federal Reserve Act. So I think that's useful.
I do, and I talk about this a bit in the book, I do think that there are a couple of things we should pay attention to here though. One of them is I just think that the elected government has become so much more aware of what the Fed is capable of and what it can do with some of its powers, both the emergency lending powers and just bond buying, which has become much more passé than it used to be.
And I think that you have to keep an eye on what kind of appointments are being made to the Fed’s board in Washington. The board is so powerful. The board does so much of what the Fed does and it's presidential appointed people and it turns over relatively quickly. They're very long terms, but people don't typically stay in them for the long terms.
And so you often have a situation where it's relatively politically lined up in one direction, and it's got all these powers, it can potentially have a partisan lean. And I just think that given how much power this institution has, that's something to be very aware of. And I think it's something to, you know, make sure elected officials are focused on appointing nonpartisans to the degree possible and feasible in a very partisan world.
Joe: (39:02)
It is interesting. Talk about the conservatism, even the presidents of both parties seem to be conservative in their picks. Like, other than Trump's failed nomination of Judy Shelton, most of his names were pretty conventional.
Jeanna: (39:16)
Okay. But I think you just can't, I feel like this is a thing that often happens in the media and we just pretend like the Judy Shelton nomination didn't happen and didn't almost get confirmed. I think, because there were some really interesting picks there where they were like just scrapped immediately. Like Steve Moore was not going to realistically get this job.
Tracy: (39:35)
I mean, I think it's highly likely at some point the culture wars come to the Fed. And I mean, you've seen it in with the ESG space and investing. To me it's just a matter of time.
Jeanna: (39:45)
Yeah. And the way they came for the Supreme Court, you know, I think we're in a place with the Fed that, I think the Supreme Court is the right analogy to use. You know, it used to be treated in a very different way, not by any sort of legal requirement, just because that's the way we thought about the court. And we're at that stage now where we treat the Fed a certain way, not because of any legal requirement, just because that's how we think about the Fed. And I think it's just a thing to be aware of. You wouldn't want this power to go partisan because it could go partisan in both ways.
Tracy: 40:15
Yeah, this is exactly my point. I totally agree.
Joe: (40:15)
Can I just say, we have these monitors in the studio of like different TV networks and I just saw Larry Kudlow on one of the screens and I thought about like Fed Governor Larry Kudlow one day -- nothing against Larry, but you know, it was like future, I don't know, probably not at this point. But it is sort of funny to think about these, like most of the names other than Shelton that have ever been nominated, you don't associate too strongly with like one party.
Tracy: (40:42)
Joe. The other screen is ‘DeSantis touts culture war priorities in Florida speech.’ So, you know, there you go. It's a sign of what's coming.
Joe: (40:54)
It's only a matter of time. Jeanna Smialek, thank you so much. Congrats on the book and really appreciate you coming on Odd Lots.
Jeanna: (41:01)
Thank you for having me.
Joe: (41:14)
Tracy, I really enjoyed that conversation. I thought that last point in particular that what we've seen with the Supreme Court, because obviously, you know, presidents have always appointed more liberal or conservatives, but also like now you don't expect to get any votes from the other party for your nomination, etc. We haven't quite seen that happen with the Fed yet, but it's almost like how is it going to avoid that?
Tracy: (41:38)
Right. It seems highly unlikely to me that this very powerful group of technocrats is somehow going to be immune to the intense politicization that we've seen of literally everything else in the past few years. So that's point one. But I also thought Jeanna made a really good point about, you know, there is all this criticism of the Fed often for justified reasons and to some extent it has been accumulating all these new powers and abilities that it hasn't been explicitly designated to have, at least by voters. But also sometimes it's making the tough choices and sometimes there aren't great outcomes.
Joe: (42:17)
Yep. And just as ideally, I keep thinking of it as like it's independent in the sense that okay, it's supposed to be sort of immune from partisan politics and make hard decisions and do the tough thing and that's an element. But then there's also these sort of like operational independent one entity in DC that does not have to, you know, always go for a vote or come for reelection or whatever. And as it gets harder and harder to pass anything in DC and I don't think many people expect that trajectory to change, then everyone's like, ‘oh you guys, you guys don't have to worry about the politics that we do.’
Tracy: (42:51)
I think you're totally right. And I think you used the word ‘sink,’right? It's like a sink for things that can't get done in Washington and that that is true and it has been helpful at times, but the more it does that, I think the more attention it's going to garner and the more it becomes a target.
Joe: (43:08)
Totally. And the more partisan it will become. The more people will be really focused on, okay, but what is your stance on the Fed’s role in funding climate, etc., these kinds of things. They'll inevitably get more heightened and then you'll have more of those 51-49 nomination votes and things like that.
Tracy: (43:25)
Yeah. On that happy note, shall we leave it there?
Joe: (43:28)
Let's leave it there.
You can follow Jeanna Smialek on Twitter at @jeannasmialek.