The threat to the global economy from Trump’s war on the Fed
The escalating conflict between the White House and the US central bank could have far-reaching consequences
Claire Jones and Sam Fleming in London, and Myles McCormick in Washington
© Rory Griffiths/FT montage/Getty ImagesA president with unorthodox economic views decided the head of his country’s central bank was standing in his way and so shunned global norms in order to act.
The president was Recep Tayyip Erdoğan of Turkey and the year was 2019.
Erdoğan sensationally sacked Murat Çetinkaya and installed a more pliable candidate in his stead.
It began a long period of economic instability with a plummeting lira and a surge in inflation.
Not even Erdoğan’s administration, however, suggested his country’s top banker might be a criminal.
Yet that is the situation in the US where Federal Reserve chair Jay Powell now faces a federal investigation over a $2.5bn renovation of the Fed’s headquarters.
This week, it was Powell who abandoned the norms of his office to come out on the front foot and publicly attack the Department of Justice probe before it was formally announced.
It was, the Fed chair said bluntly, a pretext for US President Donald Trump to pressurise him to slash interest rates.
Powell’s defiance quickly paid off — with Republican lawmakers, US and global central bankers and top financiers leaping to the Fed’s defence and calling on the White House to respect its independence.
Even Trump loyalists questioned the department’s tactics.
Larry Kudlow, Trump’s former head of the National Economic Council, said US attorney for the District of Columbia Jeanine Pirro “may have pulled the trigger” on Powell “a little too fast”.
On Wall Street markets remained calm, as they bet the central bank will successfully resist administration pressure for rates to be cut to rock-bottom levels.
But for many leading economists and investors, the message from the unprecedented events was nevertheless profoundly alarming.
Since the second world war, the White House and the Fed have been among the most powerful actors in the global economy.
Now the two institutions are openly at war with each other, sending a damaging message to the world about America’s status as the pre-eminent economic power and the resilience of its institutions and rule of law.
“The US was the leader of the free world and was supporting the kind of institutions that we believe a market economy needs to flourish,” says Klaas Knot, former head of the Dutch central bank.
“It was leading by example.”
Now, he says, “they have apparently chosen to set an entirely different example”.
Trump is facing a crucial week in his fight to remake the Fed in his own Maga image.
As he travels to Davos to defend his radical economic ideas to the global elite, the US Supreme Court will hear arguments in the case of Lisa Cook, the Fed governor he tried to fire over allegations of mortgage fraud.
She denies the allegations and has not been charged.
As relations between the White House and the Fed continue to deteriorate, leading economists fear the consequences for US prestige and economic might will long outlast the Trump administration.
“To be in a situation where the Fed is under attack in plain sight really is troubling,” says Gita Gopinath, a professor at Harvard and former IMF first deputy managing director.
“I don’t think we should underestimate how consequential a moment this is.”
The bad blood between Trump and Powell runs deep.
Having nominated him as Fed chair, the president turned on Powell just a few months into the job, after he pushed through a series of rate rises.
During his second term, the US president escalated his attacks, calling Powell a “stubborn mule” and a “numbskull” whom he would “love to fire” for refusing to cut borrowing costs to 1 per cent — a level Trump says will juice the economy and help lower the US government’s borrowing costs by hundreds of billions of dollars.
Over the summer, the White House opened up a new line of attack, castigating Powell over an “ostentatious” renovation project that has now gone $700mn over budget.
The DoJ investigation centres on whether the Fed chair misled Congress over changes to the plans, made to rein in costs.
For a long time, Powell and other Fed officials kept quiet, refusing to respond to the insults and studiously avoiding direct clashes with the administration, even when Trump attempted to fire Cook over the summer.
On Sunday evening, that changed dramatically when a two-minute video featuring Powell speaking directly to the camera was posted on the Fed’s website.
The clip quickly caused a stir on Capitol Hill, including among Republicans who have, until now, proved reluctant to publicly criticise the US president.
Thom Tillis of North Carolina, a Republican who sits on the powerful Senate banking committee, leapt to Powell’s defence on Sunday night, and was later joined by others such as Lisa Murkowski, a senator for Alaska, and John Kennedy, a Louisiana senator who is also on the banking committee.
Major figures on Wall Street, led by JPMorgan Chase chief executive Jamie Dimon, joined global central bankers such as European Central Bank president Christine Lagarde in emphasising the need for central bank independence.
“Powell did a very good job” in the video, says Glenn Hubbard, the former chair of George W Bush’s Council of Economic Advisers who is now at Columbia Business School.
“He clarified what had happened, he didn’t editorialise, he told viewers that no one, including him, was above the law.”
Hubbard was — along with every living Fed chair and several senior former White House economists — one of the signatories of a letter that appeared on Monday condemning the DoJ probe.
Kush Desai, a spokesperson for the White House, said: “The Trump administration is committed to restoring the United States as the most dynamic economy in the world and ensuring that financial markets have confidence and trust in our nation’s monetary policy.”
Yet even within the Trump administration, the decision to pursue Powell proved divisive.
While US Treasury secretary Scott Bessent has publicly advocated for an “exhaustive” internal review of the way the Fed operates, he privately told Trump not to pursue an investigation against Powell, according to a person familiar with the matter.
Bessent had no prior knowledge that Powell was set to receive subpoenas from the DoJ last week, the person adds.
Treasury secretary Scott Bessent, back centre, and director of the National Economic Council Kevin Hassett, front centre. Both publicly support probes into the Fed, but Bessent is said to have privately told Trump not to pursue an investigation against Powell © Andrew Harnik/Getty Images
The Treasury insisted there was “zero daylight” between Bessent’s position and the president’s.
Hubbard says the White House — which also denied any prior knowledge of the subpoenas — scored an “own goal of epic proportions”.
The probe may have made it more difficult for Trump to shape the Fed as he sees fit.
While Powell’s term as chair expires four months from now, he can remain a governor until January 2028.
Those close to the Fed chair think that Powell wanted to follow protocol and resign his governorship when he loses the chair.
But they say the probe has forced him to reconsider whether stepping down is the right choice, as it would give the US president a chance to appoint an ally to sit on the central bank’s board.
The backlash has also created an uphill battle for Trump in getting a new Fed chair approved by a majority in the Senate.
Tillis, who is retiring from the Senate this year, has threatened to block whoever Trump picks from advancing to a vote in the upper house of Congress until the probe is dropped.
Should that not happen by the end of May, Powell could even stay on as chair.
Some believe that the probe has damaged the chances of Trump ally and National Economic Council director Kevin Hassett succeeding Powell.
Hassett said on Monday that he supported the DoJ probe before playing down its significance on Friday as the fallout mounted.
“I expect that there’s nothing to see here,” he told Fox Business Network.
Other putative candidates — former Fed governor Kevin Warsh, Fed governor Chris Waller and BlackRock’s Rick Rieder — are yet to comment.
On Friday, Trump hinted that Hassett could be out of the race, saying: “I actually want to keep you where you are, if you want to know the truth.”
Later, he said he had made up his mind who to nominate for the role.
“The biggest loser this week was Kevin Hassett,” says Justin Wolfers, an economist at the University of Michigan.
Trump has, however, already succeeded in securing Senate approval for one of his close economic allies, Stephen Miran, who joined the Fed’s board last year.
The Supreme Court’s ruling on Cook will be crucial in determining whether or not Trump is able to force officials out, says Fred Mishkin, a former Fed governor, though it might not come for months.
“If the Supreme Court rules that you could just fire somebody for any reason you want, this is a whole new ballgame,” Mishkin, now at Columbia University, says.
“You can fire not just the chair, but . . . the entire board of governors and replace them with your lackeys.”
So far, investors seem sanguine about tensions between the Trump administration and the world’s most important central bank.
US stocks and bonds were barely affected by last weekend’s escalation, as investors bet that the DoJ probe would fail to unseat Powell.
The 10-year US Treasury yield barely budged, reflecting market confidence that rate-setters on the Federal Open Market Committee would continue to resist pressure from the White House to rapidly cut interest rates.
“We’re expecting the Fed to continue to make monetary policy under its existing policy strategy,” says James Egelhof of BNP Paribas.
But some investors caution not to diminish the longer-term impact of the week’s events, coming at the same time Trump has been shredding postwar assumptions about America’s role in the world and as screeching U-turns over tariffs and trade policy continue to jolt the global economy.
While the conflagration over the Fed has not prompted a “full-blown sell America trade”, says Paul Diggle, chief economist at Aberdeen, the risk of “creeping politicisation” of US monetary policy is causing some to hedge their bets.
The $2.2tn fund manager Pimco, for example, told the FT this week it was diversifying away from dollar assets given the Trump-instigated turmoil.
“A lot of governments and a lot of businesses are self-insuring against the dollar,” says Adam Posen of the Peterson Institute in Washington.
“They’re not running for the exits, but they are making plans that are not dependent on the US.”
Even if the criminal case being pursued by the DoJ fails, a dangerous precedent has now been set, economists warn.
“The more insidious and less visible effect over time would constrain the proclivity and the confidence of members of speaking out and stating views that are at odds with the president’s,” says Lael Brainard, a former Fed governor who served in Joe Biden’s White House.
“In the extreme, everybody is nervous that they too could be the subject of a criminal investigation, or fired summarily.”
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