The focus of the country is about to switch to 24/7 wall-to-wall coverage of the presidential election, including primaries, debates, campaign-spending totals, and poll results.
But in reality, what really matters most in the 2024 presidential election will be how successful Federal Reserve Chairman Jerome Powell and his colleagues will be in their efforts to cool inflation without pushing the economy into a recession, according to Yale economics professor Ray Fair.
“The Fed’s main goal at the moment is to get inflation down to 2%, not to help one political party. But the political consequences of its actions are huge… behind the scenes what really matters is how successful will the Fed be,” Fair wrote in his analysis of the upcoming election, on his blog.
The stakes for President Joe Biden and his presumed Republican opponent, Donald Trump, couldn’t be higher. If there were to be a recession in the next 12 months, it would likely seal Biden’s fate as a one-term president, said Owen Tedford, a researcher at Washington D.C. consultancy Beacon Policy Advisors, in a note to clients.
It is not unusual for an incumbent president to look for assistance from the U.S. central bank. In fact, several Fed chairs and presidents seeking re-election have squared off in the past
In his memoir, former Fed Chairman Paul Volcker said President Ronald Reagan’s chief of staff, James Baker, warned him not to raise interest rates in the run-up to Reagan’s re-election bid in 1984. Volcker did not raise rates during the election campaign, but said Baker’s request was not the reason. Former President George H. W. Bush publicly blamed Fed Chairman Alan Greenspan for his unsuccessful re-election bid in 1992. Bush said he had urged Greenspan to cut rates more rapidly during the recession of 1990-1991. In the end, Bill Clinton’s presidential campaign won with the motto, “It’s the economy, stupid.”
According to Fair’s calculus, Biden and his economic team are not getting many breaks and the economy is entering 2024 in a negative way for Democrats, with growth not slowing and inflation well above 2%.
On paper, of course, Powell’s job is to use monetary-policy tools to keep the prices of goods and services stable, while also maximizing employment. After allowing inflation to get out of control during the pandemic, he’s overseen 11 rate hikes since 2022, but the final stretch of his term, which ends in 2026, will not get any easier for him or for markets, landing him on The MarketWatch 50 list of the most influential people in markets. A lot is riding on what Powell does, or does not do, in the next 12 months.
While the economy is heading into 2024 with momentum, which is good for Biden, there is a lot of inflation and a lot of risks. Instead of seeing inflation licked and the economy at a steady, sustainable pace, consumer-price inflation is running at a 3.7% rate and the economy is running close to a 5% rate, strong enough to keep inflation percolating.
“The Fed cannot declare tightening over with growth this strong and inflation still above target,” said Chris Low, chief economist at FHN FInancial.
The U.S. central bank recently updated its forecast to show a slower path to rate cuts than had been expected, dimming market hopes of quick easing next year. The market is not expecting Powell to cut rates until the second half of next year. A recession, which has been a perennial concern in the last 18 months, is now squarely back on the table for 2024.
All of this is “dangerous” for Biden’s re-election hopes, said Sarah Binder, a senior fellow at the Brookings Institute, pointing out that Powell’s decisions could cause a recession or a spike in inflation – right when voters are paying the maximum amount of attention. It is also a great challenge to the Fed, which likes to shelter out of sight during presidential campaigns, she added.
“The Fed wants to duck out of the wind and not be front and center in an election year. They don’t want to be seen as their policies putting a thumb on the scale for one candidate,” Binder said.
When inflation spiked in 2021, the Fed quickly started raising interest rates to a range of 5.25%-5.% over the next 19 months. Fed officials had hoped that these hikes would put enough downward pressure on inflation so that they would be able to cut rates in 2024.
Tedford, of the Beacon policy research firm, said that Powell will try to protect the central bank’s nonpartisan image.
“As a creature of Washington, Powell is in tune with the inside-the-Beltway political class and will want to ensure that he can prevent the Fed from suffering the same hit to its prestige as the Supreme Court has in recent years,” Tedford said.
‘If there was not an election in 2024, they might not have raised rates in July’
Jay Powell still hopes that the economy evolves in a way that allows the Fed to step back behind the curtain — or at least away from center stage. Inflation could continue on its downward trend seen since the summer that has brought consumer inflation to a 3.7% annual rate from 9.1% a year earlier. Many economists see inflation pressures continuing to ease.
But prominent experts warn inflation could reaccelerate, putting the central bank back in the spotlight.
“If the Fed finds itself in March of 2024 with the unemployment rate of 4% and an inflation rate of 4%, with some of the temporary [good] inflation news behind them, they are in a very tough spot,” former Fed Vice Chairman Richard Clardida recently said.
Adam Posen, the president of the Peterson Institute for International Economics, said the risk of a reacceleration of inflation in 2024 should not be dismissed. “History has shown that sometimes you have a partial disinflation before inflation reaccelerates. It is not going to be all or nothing,” Posen said.
The strong labor market could put renewed pressure on prices or Congress might be tempted to increase spending ahead of the election, if it can end its current paralysis, he added.
Although Fed officials don’t often talk about reacceleration of inflation, at their meeting in September, Fed officials were concerned that the economy might continue to expand at a fast pace. A majority of Fed officials pointed to upside risks to inflation.
Other economists are more worried about a contraction in economic activity. For instance, the economists at Wells Fargo are forecasting a recession between April and September next year. That would be deadly for the White House as it is right when Americans voters start paying the most attention to the economy, experts say.
The recent sharp run up in bond yields raises another risk – the likelihood that any recession would be more severe, said Tom Tzitzouris, managing director of Strategas, a market-research firm.
“We avoided a recession in 2023 but the cost of that is the breaking point is going to be with yields higher, and more risk that the recession will be accompanied by financial credit events due to leverage,” Tzitzouris said.
This is not the economy Biden would have scripted for his re-election campaign. But he and his team will have to play the cards they have been dealt.
Central bank officials have said the economy needs to grow at less than a 2% annual rate “for some time” to bring inflation down. In an October speech, Powell said he saw signs of the economy slowing. Recent weakness in the S&P 500
is seen as a potential early indication of a coming slowdown.
But some economists are skeptical, pointing out that the 4.9% growth rate of gross domestic product in the third quarter is the fastest pace since 2014 if the pandemic years are excluded. Recent Markit Purchasing Managers’ Index data, a survey-based indicator of the production of goods and services, also shows an improving economy.
It’s important to note that Biden and Powell are not at loggerheads and do share a common aim. They both want to see inflation soften, said Binder.
The Fed seed a chance of a “soft landing” with little damage to the labor market. In contrast, Biden’s economic team wants to see the airplane “circle the airport” and not land at all, Binder said. In this political parlance, a recession would be just like a “hard landing.”
In their most recent speeches, Fed officials said they expect the economy to slow relatively soon. Fed Governor Chris Waller said that either the economy slows on its own or the Fed will have to continue to hike rates.
“The economy needs to cool fast to put further rate hikes on ice,” said Sal Guatieri, senior economist at BMO Capital Markets.
In other words, how Powell reacts as the election approaches could impact the economy, markets, and the perception of voters, throwing him into the political arena.
While Biden hasn’t demonized Powell personally like Trump did, he and his economic team likely won’t shy away from criticizing the central bank if the economy falls into recession, Binder said.
“If the economy goes south, Biden and other Democrats will point fingers at the Fed,” Binder said.
It is hard to know how hard Biden might criticize the Fed and how successful the attempt to shift blame might be. After all, it is a “Biden Fed” with the president having selected four of six governors and reappointed Powell in 2022 to a second four-year term as chairman, Blinder added.
With Congress so partisan, Republicans are more likely to focus all of their blame on Biden rather than the Fed, taking perhaps some pressure off the central bank, Binder added.
Economists don’t doubt that Powell will hike interest rates in 2024 if needed.
“Powell has insisted he’s the next coming of Paul Volcker,” Binder said. Volcker is revered at the Fed for bringing inflation under control in the early 1980s, even though interest rates had to climb to 20% to accomplish that goal.
In his most recent speech, Powell indicated he expects a slowdown in the pace of growth and continued progress on inflation, so the Fed can remain on hold for now, said Ian Shepherdson, chief economist at Pantheon Macroeconomics. But the alternative scenario of sticky inflation could require more rate hikes.
Brian Bethune, an economics professor at Boston College, said the Fed has already hiked rates more than was needed so they could sit out 2024.
“My sense is that, if there was not an election in 2024, they might not have raised rates in July. It was some insurance to make sure they are not in the awkward position of raising rates early in 2024,” he added.
Mark Gertler, a monetary policy expert at New York University, said he doesn’t think the Powell Fed will be aggressive about raising interest rates next year unless wage inflation picks up or consumer inflation expectations start to increase.
Otherwise he thinks the Powell’s Fed will be “fine” taking a couple of years to bring inflation back to 2%.
Tedford of Beacon said he was worried that Powell might try to be too tough and hold rates too high for too long to avoid the perception that he is cutting rates for Biden’s electoral benefit. This would risk the recession that sinks Biden’s re-election chances, he said.
For now, uncertainty reigns.
”One thing is clear: The inflation outlook will depend on how soon the economy decelerates from the estimated 5% growth last quarter to a sub-potential rate of under 2%. Without a sharp slowing in growth, the Fed can’t declare ‘game, set, match’,” said Guatieri of BMO Capital Markets.
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