Last Friday, our financial markets gyrated wildly as President Donald Trump made clear he would not back down in the current trade conflict whereas Federal Reserve Chairman Jay Powell suggested in his speech that while the Fed will react to economic developments it will not proactively coordinate its policy with the Administration. Amazingly, former NY Fed President Bill Dudley today wrote the Fed should not help boost growth amid the trade war and should actually consider setting monetary policy to make it harder for Trump to win re-election. This bastardization of so-called central bank “independence” to hurt an American President is deeply opposed to our democratic values and a blatant interference in our elections. So on the Fed, the view apparently ranges from not coordinating with Trump to actively undermining him.
This puts Trump, and by extension America, at a self-imposed disadvantage in trade talks with China as President Xi Jingping can have all layers of his dictatorial government coordinate policy. Trump must do everything in his power to boost American economic growth to ensure we maintain maximum leverage in this generational battle against long-running Chinese economic aggression.
As such rather than helplessly bemoaning Powell’s stubborn refusal to aggressively cut rates, Trump needs to use the powers of the Presidency to take unilateral action to boost US growth. In and of itself, the fed funds rates of 2.125% is not particularly high, certainly not in a historical context. However, relative to the rest of the world, US rates are exceptionally high. Japan, Europe, and Switzerland have negative rates; Australia, the UK, and Canada are each below ours. The fact the US offers the highest interest rates in a world awash in $16 trillion of negative-yielding debt has made us a magnet for foreign capital, which has flooded onto our shores.
Our relatively high interest rates have pushed the dollar substantially higher; indeed, the trade-weighted dollar is essentially sitting at an all-time high. The Fed’s relatively tight interest rate policy, despite below-target inflation, is pushing the dollar up, which is a major headwind for American exporters and the manufacturing sector, unnecessarily slowing economic growth and weakening our hand against China. The ECB and BOJ among others have used super-low interest rates to artificially weaken their currencies against the dollar. In other words, these governments have manipulated the dollar to unfair heights; US policy aimed at weakening the dollar would help return it to its fair, fundamental value. Fortunately, while the President cannot force the Fed to reduce interest rates, he can act to stop the dollar’s rise and strengthen our manufacturing sector, which would provide the same relief as further Fed rate cuts.
President Trump should immediately declare our trading relationship with China, one defined by chronic trade deficits and stolen technology, a national emergency, invoking the powers of the International Emergency Economic Powers Act (IEEPA). This statute gives the President broad power to regulate international commerce. Namely, section 203 empowers the President to “investigate, regulate or prohibit any transactions in foreign exchange.”
Using this power, President Trump must immediately impose a charge on all foreign capital purchases of US dollars. This could be enacted in one of two ways. Either Trump could impose a 5-10% tax on all foreign financial purchases of US dollars or impose a 100% marginal tax on purchases of US dollar above a certain exchange rate (ie 7 yuan to USD), which would eliminate the ability of other governments to keep weakening their currencies against the dollar. Either of these actions would make it costly for foreign investors to push up the value of the US dollar and enjoy excessive interest rates offered by the Federal Reserve. If foreigners want exposure to our deep, liquid, high-yielding financial markets, they will have to pay an entrance fee. By curtailing this financial flow, the US dollar would immediately reset lower by several percent, giving a shot of stimulus to our export sector, which would help reduce the US trade deficit. A lower dollar also makes it easier for domestic producers to compete against foreign producers within the US consumer market, a benefit to our manufacturing sector.
While Chairman Powell still controls the Fed funds rate, by taking firm control of US dollar policy, President Trump would be able to nullify the impact of higher interest rates that has caused him to criticize Fed policy so vocally, by functionally eliminating the relative rate differential between the Fed and other central banks. This action would also make it clear to President Xi that America will no longer fight this trade war with one arm tied behind our backs. Just like China, we also have the capacity, even if by unconventional means, to coordinate policy across government to maximize growth and enhance our leverage in trade talks.
And let there be no mistake, the current situation with China is a national emergency. For two decades, America’s policy of economic appeasement has let China amass over $3 trillion in foreign currency reserves, build new cities, and amass major military might all while destroying America’s manufacturing base, stealing our technology, hacking into our systems at OPM and elsewhere, and letting fentanyl poison our citizens. Combatting the aggression of the oppressive regime that seeks global superpower status is the defining issue for my generation, just as defeating the Soviets was the existential fight of the latter half of the 20th century. If this isn’t a national emergency, what is?
In the past, the Fed has responded to such national emergencies. One of the Fed’s finest hours was during World War II when it coordinated policy with the rest of the Federal government, keeping rates low (0.375%) to help finance the war effort. Beating the Nazis trumped central bank “independence.” Critical national moments require policy coordination to ensure America’s national interest are best served. Sadly while World War II showcased the Fed’s patriotic purpose, today’s Fed sits stubbornly on the sidelines, which only helps China. This is why Trump must act.
Rather than merely expressing his displeasure with Powell’s anti-exporter Fed policy, Trump needs to effectively leverage the powers of the Presidency. It is time to se the IEEPA to negate Fed policy’s impact on the US dollar, accelerating manufacturing activity and economic growth, which will help America prevail in a prolonged trade conflict against Communist China.