By Michael Every of Rabobank
The court of public opinion
Years ago, the start of quantitative easing caused a backlash over concerns that the central banks were prioritizing the asset-rich over the average Joe. It raised questions about mandates and the independence of the monetary authority, particularly in Europe where the ECB was the only actor to prevent a fragmentation of the Eurozone. And it even raised questions of ethics, after some of the FOMC members’ trading activities came to light.
Plus, for years their policy was unable to revive inflationary pressures. But then, due to circumstances outside the control of central banks, inflation did return – with a vengeance. And while some of these supply-driven inflation shocks do not fall within the realm of control of central banks, it is the monetary policymakers who are now being looked at for last year’s erosion of households’ purchasing power.
The number of news articles in mainstream media related to monetary policy has increased with the rise in inflation, and central banks are under the microscope. Their credibility is tarnished, and they are behind in the court of public opinion.
You would therefore expect monetary policymakers to be a bit more cautious, for example when selecting new executives. The recent appointment of Austan Goolsbee to the position of President of the Federal Reserve Bank of Chicago has stirred up quite some dust, though.
First of all, his appointment adds to the concerns that central banks are increasingly becoming politicized, putting the independence of the monetary authorities at risk.
The new head of the Chicago Fed is a prominent Democrat and outspoken critic of the GOP. Now, that of itself shouldn’t be an issue – we all have our political beliefs. And considering that the government picks the national monetary policymakers, that usually results in nominees who are at least to some extent aligned with the political incumbent. This is not just true in the US; the appointment of ECB board members has seen similar horse trading in the highest circles of the EU. And after that pick has been made, it is quite uncommon to see politics in the voting process.
Yet, that is exactly what appears to have happened over the Chicago Fed presidency. Bloomberg News unveiled that the FOMC’s Bowman and Waller, both appointed to the Federal Reserve board by former President Trump, abstained from the confirmation vote. Moreover, the news agency discovered that several of the Chicago Fed directors who nominated Goolsbee to head the institution have been donors to Democratic candidates.
Secondly, and to make matters worse, Bloomberg News followed up on that story yesterday with the news that the executive search consultancy that helped select Goolsbee for the job employs his wife. Responding to the Bloomberg reporters, a spokesperson for the Chicago Fed stated that “members of the search committee, […] were made aware Robin Goolsbee was an employee of the search firm”, and that she didn’t play a role in the selection process. However, none of this information was disclosed during the search or after the choice was made – despite the fact that the regional central bank has been relatively open and transparent about the search process.
Yes, Goolsbee has great papers to lead the institution. And of course, neither of the above may have actually influenced the outcome of the selection process, as the Chicago Fed has stressed too. But the optics sure aren’t great.
The commotion surrounding the appointment of the regional Fed’s executive only adds to President Biden’s headache trying to fill the vacancy left by the departure of Lael Brainard, which is already a contentious pick between inflation (a hawk) and employment (a dove) for the US president. Within his own party, Senator Warren has called for the appointment of a person who will balance some of Powell’s ‘extreme’ rate hikes, to avoid that the Fed’s obsessive inflation fight “puts millions of people out of work”. Keeping politics out of the doors of central banks has become increasingly difficult in the current economic environment.
This more general notion not only holds for the world’s biggest central bank. The ECB, for example, is taking some flak for their insistence that wages are a key risk for the future inflationary process. European central bankers have acknowledged that there should be some wage increases to compensate households for the lost purchasing power, but they have also cautioned labour unions against asking for too much. Last year, the ECB even found itself in a pay dispute with its employees.
While wages, through their impact on inflation, are tied to the bank’s objectives, their recent comments also put the ECB more in the political arena. At a recent retreat, the Governing Council was presented a slide pack detailing how company profit margins have been increasing rather than shrinking, despite the sharp rise in input costs. As the Reuters article summarizes, “the idea that companies have been raising prices in excess of their costs at the expense of consumers and wage earners is likely to anger the general public.” It also implies that the ECB is at risk of overtightening, since profit margins do not have the same self-reinforcing effect on inflation as wages might.
That is particularly true if the ECB continues to point to wages as the main risk for the inflation outlook – which have increasingly become the subject of Lagarde’s press conferences. This assessment not entirely fair, though. The accounts of the October meeting already mentioned an “unusual resilience of profits and profit margins in the light of deteriorating cyclical conditions” and the accounts of the February ECB meeting released yesterday do note that “developments in profits and mark-up warranted constant monitoring and further analysis on an equal footing with developments in wages.”
For now, though, the ECB’s focus remains very much on wages: “until a few months ago wage growth had remained moderate, but now there was a clear acceleration, which had to be taken into account in the outlook for core inflation.” The Council added that the labour market remains tight despite the slowdown in activity. “Therefore, while there was wide agreement that there were no signs of a wage-price spiral, it was argued that current wage growth was clearly not consistent with a 2% inflation target.”
This is the ECB suggesting that they may need to do more to lean against wage developments and a tight labor market – which comes down to depressing demand: “a better than expected growth outlook would contribute to continued inflationary pressures, which were unlikely to abate by themselves without further significant policy tightening.”
Indeed, yesterday’s inflation data for February, which saw core HICP accelerating to 5.6% unexpectedly, may dash some of the doves’ hopes that “the recent dynamics of core inflation showed that there had been a levelling-off of momentum.” That increases the upside risks for the ECB’s policy rate.