This Is What Happens Behind Closed Doors When U.S. Presidents Meet With Fed Chairs

Last week, Donald Trump ventured into what until recently was uncharted, for US presidents, territory.

First, during a CNBC interview, the president went so far as to say that the strong dollar “puts us at a disadvantage” then went on to do what so many consider anathema, and said he is “not thrilled” about the Fed rising rates “because we go up and every time you go up they want to raise rates again.”

One day later, Trump doubled down, saying in a tweet that “tightening now hurts all that we have done. The U.S. should be allowed to recapture what was lost due to illegal currency manipulation and BAD Trade Deals. Debt coming due & we are raising rates – Really?”

And while Trump made it clear he was displeased with the Fed’s tightening – which has been largely a function of the soaring US double deficits and Trump’s own late cycle fiscal stimulus (which according to Barclays will push the economy into near overheating territory, with Q2 GDP now pegged at 5.0%) – he also went on to accuse “China, the European Union and others” of “manipulating their currencies and interest rates lower, while the U.S. is raising rates while the dollars gets stronger and stronger with each passing day – taking away our big competitive edge.”

So is Trump trying his best to Erdogan-ify the US economy, and is taking a page out of the Turkish dictator’s playbook, in a power grab that will end up with Trump controlling the Fed? That remains to be seen: naturally the White House, Steven Mnuchin and countless other officials have vowed that Trump has utmost respect for the Fed’s independence. That, however, will likely change the moment the market tumbles and Trump demands a rate cut by the Fed.

For now all Trump has achieved is trapping himself in his escalating trade and now currency, war with China, because as we discussed earlier, the Fed’s hands are now tied and Powell may be unable to cut rates even if it has to, should China proceed with an aggressive yuan devaluation, just to indicate the Fed is still an independent institution and not subject to Trump’s whims.

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And yet… is what Trump did really “uncharted”?

As it turns out a brief jog through history reveals that none other than Trump’s predecessor, Barack Obama got into hot water when in April 2016, the former president had a closed door private meeting with then-Fed Chair Janet Yellen, prompting a sharp market reaction and numerous questions what was said.

As we reported at the time, White House spokesman Josh Earnest apologetically noted that President Obama also “cares deeply about preserving both the appearance of and the fact of the independence of both the Federal Reserve” and added that he wouldn’t anticipate “even in a confidential setting” that Obama “would have a conversation” with Yellen “that would undermine” the ability to make “critical financial decisions independently.”

To this day, it is unknown what was said.

But for a far more colorful example of just how laughable the concept of Fed independence is, we go to the NYT with this brief but highly memorable anecdote from a meeting between President Lyndon B Johnson and Fed president William McChesney Martin.

… in 1965, President Lyndon B. Johnson, who wanted cheap credit to finance the Vietnam War and his Great Society, summoned Fed chairman William McChesney Martin to his Texas ranch. There, after asking other officials to leave the room, Johnson reportedly shoved Martin against the wall as he demanding that the Fed once again hold down interest rates.

“I hope you have examined your conscience and you’re convinced you’re on the right track.” Lady Bird Johnson said to William McChesney Martin, on his arrival at the LBJ ranch.

Martin caved, the Fed printed money, and inflation kept climbing until the early 1980s.

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For those with more time, here is a far more detailed fascinating, story of the war that ensued between Martin and LBJ, once again via the NYT:

[In 1965, Martin began speaking publicly about his concerns]. He was afraid the growing cost of the Vietnam War would force a devaluation of the dollar. He saw yet another budget deficit (there had been several in a row) at a time when budget deficits were still looked at askance. In a speech in May, he called it an era of “perpetual deficits and easy money” — red flags among central bankers.

Then in June,  at Columbia University, he laid down the gauntlet in a speech that described “disquieting similarities” between the current economic climate and the years leading to the Great Depression: “Then, as now, government officials, scholars and businessmen are convinced that a new economic era has opened, an era in which business fluctuations have become a thing of the past.”

His words were heard. That afternoon the New York Stock Exchange had one of its sharpest declines since Kennedy’s assassination, and the next day The New York Times reported on Page 1 that “Reserve Board Chief Compares Boom Today With That of 20’s.” Johnson, at his next news conference, went out of his way to dispel “gloom and doom” about the economy.

According to Robert P. Bremner in his book “Chairman of the Fed,” Johnson asked his attorney general, Nicholas Katzenbach, to determine if a president could legally remove a Fed board member from office. (He was advised that disagreeing with administration policies did not constitute “termination for cause.”) 

In late November Martin signaled to Johnson’s Treasury secretary that he thought he would have the votes for a rate increase at the Fed’s Dec. 3 meeting. The secretary,  Henry H. Fowler, relayed this news to Johnson, and they agreed that Martin should delay any action, at least until January, when the administration’s budget estimates would be available.

Martin’s behavior, Fowler said, was giving Americans the impression there were “two quarterbacks” running the economy — Martin and Johnson.

On the morning of Friday, Dec. 3, the day of the Fed’s policy-making meeting, Martin again called Fowler to tell him of the imminent rate increase. Johnson, at his Texas ranch recovering from gallbladder surgery, was livid that his calls for a delay were being ignored. Speaking to Fowler by phone, he made a historical reference going back nearly 150 years: the so-called Bank War when President Andrew Jackson whipped up a populist frenzy against Nicholas Biddle and his Bank of the United States, a predecessor of the Federal Reserve.  

Johnson made sure Fowler passed along his warning: “It’s going to hurt my pride, and it’s going to hurt my leadership, and it’s going to hurt the best champion business has got in this country.”

His voice rising, he then told Fowler they needed to replace Martin with a “tough guy” to run the central bank.

Martin resisted the appeals. At the Board of Governors meeting that afternoon, he called for a vote to raise the discount rate a half-percentage point, to 4.5 percent. But before the vote, he conceded that raising the rate would essentially wave a red flag before the critics of an independent Federal Reserve, in Congress and in the White House.  “We should be under no illusions,” he told his colleagues. “A decision to move now can lead to an important revamping of the Federal Reserve System, including its structure and operating methods. This is a real possibility and I have been turning it over in my mind for months.”

The vote was 4 to 3. Martin cast the deciding ballot.

In Texas, Johnson was enraged. Joseph Califano, an aide (later a cabinet secretary under President Jimmy Carter), recalled Johnson’s “burning up the wires to Washington, asking one member of Congress after another, ‘How can I run the country and the government if I have to read on a news-service ticker that Bill Martin is going to run his own economy?’”

Martin was summoned to explain why he had defied the president.

Martin flew down to the Johnson Ranch on Monday, Dec. 6, along with Fowler and other advisers. The president met them at an airstrip behind the wheel of his Lincoln convertible. They piled in and he drove them to the house.

There, Johnson got Martin alone and did not mince words. According to different accounts, the 6-foot-4 Johnson pushed the shorter Martin up against a wall.

“You went ahead and did something that you knew I disapproved of, that can affect my entire term here,” Johnson said, as Martin recalled later in an oral history. “You took advantage of me and I’m not going to forget it, because here I am, a sick man. You’ve got me into a position where you can run a rapier into me and you’ve run it.”

“Martin, my boys are dying in Vietnam, and you won’t print the money I need,” he said.

Martin stood his ground. He pointed out that he had given the president fair warning that a raise was coming. More broadly, he insisted that he and the president had different jobs to do, that the Federal Reserve Act gave the Fed responsibility over interest rates.

“I knew you disapproved of it, but I had to call the shot as I saw it,” he said.

The two eventually stepped outside and tried to assure reporters that any differences had been patched up. Their sour expressions, captured in newspapers the next day, suggested otherwise.

Despite their differences, Johnson renominated Martin to the Fed chairman’s job one year later. Martin would step down in 1970 during the administration of Richard M. Nixon, the fifth president he served under, after having had the longest term of any Fed chief.

The economic expansion that started  in 1961 would continue until nearly 1970 —  the second longest ever, a credit to Martin’s stewardship. But many argue that he was too slow to raise the discount rate.

In fact, the increase in rates approved in December 1965 did little to control inflation, which would creep higher after the mid-1960s and become a defining issue in the next two decades.  A successor, Paul A. Volcker, was forced to push interest rates to nearly 20 percent to bring prices down.

In the end, it appears Martin left the punch bowl out too long.

This time will not be different.