On Tuesday, July 21, the Senate Banking Committee will vote on whether to support Dr. Judy Shelton’s nomination to join the Board of Governors of the Federal Reserve System. Accordingly, we are re-posting our July 2019 commentary in which we outlined our strong opposition to Dr. Shelton’s candidacy.
In our view, over the past year, the case against Dr. Shelton has strengthened. The Federal Reserve’s speedy and decisive response to the COVID pandemic is a key reason that the U.S. financial system has steadied and the economy quickly began to recover from the worst shock since the 1930s. Had the United States been operating on a gold standard, as Dr. Shelton has long advocated, these Fed actions would not have been feasible.
Indeed, under a gold standard, instead of easing forcefully and committing to sustained accommodation, the central bank would have been obliged to tighten policy in an effort to resist the 19-percent rise of the gold price since the end of 2019. Just as it did in the Great Depression, this policy would have led us down a path of financial crisis and economic disaster (see our earlier posts here and here).
We hope that the Senate Banking Committee will vote down Dr. Shelton’s candidacy and send a determined message that unambiguously backs the Federal Reserve’s commitment to use every means at its disposal―zero interest rates, large-scale asset purchases, and broad lending programs―to restore economic prosperity and maintain price stability. Barring outright rejection, the Committee should at least move to hold an additional hearing on this nomination, as the Committee minority has proposed.
The following post originally appeared on July 8, 2019:
Protecting the Federal Reserve
“How can a dozen … people meeting eight times a year decide what the cost of capital should be versus some kind of organically, market supply determined rate? The Fed is not omniscient. They don’t know what the right rate should be. How could anyone?”
Judy Shelton, Interview with James Politi, Financial Times, May 31, 2019.
The Fed’s practice of paying banks to keep money parked at the Fed in deposit accounts instead of going into the economy is unhealthy and distorting; the rate should come down quickly as the practice is phased out.”
“Other nations indulge in currency warfare through unfair trade practices disguised as ‘discretionary monetary policy’ to undercut the price of rivals in the global marketplace.”
Judy Shelton, Interview with Tunku Varadarajan, The Wall Street Journal, June 28, 2019
“It has been 4½ years since the recession presumably ended. So why is Ms. Yellen sticking with the notion that the Fed intends to suppress interest rates far into the future?”
Judy Shelton, The Wall Street Journal, February 11, 2014.
Last week, President Trump tweeted his intention to nominate Dr. Judy Shelton to the Board of Governors of the Federal Reserve System. In our view, Dr. Shelton fails to meet the criteria that we previously articulated for membership on the Board. We hope that the Senate will block her nomination.
Our opposition arises from four observations. First, Dr. Shelton’s approach to monetary policy appears to be partisan and opportunistic. Following the 2007-2009 recession, during the weakest post-WWII recovery on record, with inflation below the Federal Reserve’s state target, she argued against “suppression of interest rates” (see quote above). By contrast, despite the lowest unemployment rate since the 1960s, in recent weeks she has argued for cutting rates “as expeditiously as possible.” This apparent willingness to pander to President Trump’s preferences, rather than setting policy to meet the Federal Reserve’s longer-term goals of stable prices and maximum sustainable employment, would diminish the Fed’s independence, which has added immensely to U.S. (and global) welfare in recent decades (see our earlier posts here and here).
Second, for many years, Dr. Shelton argued for replacing the Federal Reserve’s inflation-targeting regime with a gold standard, along with a global fixed-exchange rate regime. In our view, this too would seriously undermine the welfare of nearly all Americans.
Over the past 30 years, the Fed’s evolving inflation-targeting regime (with a floating dollar) delivered an average inflation rate (measured by the price index of personal consumption expenditures) of 2.05 percent—almost exactly in line with the Fed’s stated target—with inflation staying within 1.3 percent of the mean for 80 percent of the period. It is no accident that the Federal Reserve aims to stabilize this measure of prices: it reflects the cost of a representative basket of the goods and services that people actually purchase and consume. Shifting to a regime aimed at stabilizing the price of gold would clearly add to the volatility of prices relevant to consumers. Indeed, as the following chart shows, had the Fed tried to stabilize the price of gold in 2008—in the midst of the deepest postwar recession—it would have had to raise interest rates! And, with early-July gold prices up by more than 10 percent from a year ago, it would presumably need to raise rates now, in contrast with Dr. Shelton’s recent advocacy.
Prices of gold and of personal consumption expenditures (Percent change from a year ago), 1968-June 2020
Note: Shaded areas denote recessions. Source: FRED.
Moreover, we see no reason to return to a global fixed exchange regime. The travails of the euro area already highlight the costs of eliminating exchange rate flexibility among countries that do not comprise an optimal currency area. The world as a whole is certainly not an optimal currency area. Moreover, in a flexible exchange rate regime, the notion that discretionary monetary policy aimed at securing domestic price and economic stability amounts to “currency manipulation” (again, see the quote above) implies that all monetary policy is currency manipulation (see also Econbrowser). That would render the concept of manipulation meaningless. In our view, currency manipulation seems far more likely in a system where governments fix exchange rates arbitrarily. Provided a country is willing to accumulate massive foreign currency reserves―recent examples include China and Switzerland― they can target and maintain their currency below the value that unfettered market forces would dictate.
Third, should Dr. Shelton become a member of the Board, and should President Trump win re-election in 2020, there is a chance that she could become the Chair of the Federal Reserve when Chairman Powell’s term ends in 2021. Given her unsuitability for the Board, making her Chair would seriously undermine Fed independence.
Fourth, and finally, we note that Dr. Shelton has proposed eliminating the Fed’s key tool (in a world of abundant reserves) for controlling interest rates—the payment of interest on reserves (for a description of the Fed’s current operating regime, see here). She argues that the Fed doesn’t know what the correct interest rate is (see citation above). But that ignores the constant learning process—based on observations about the state of the economy and financial conditions—that allows the Fed to make rapid policy corrections to achieve price and economic stability. U.S. central bankers are credibly committed to their legal mandate to promote “maximum employment, stable prices, and moderate long-term interest rates.” Dr. Shelton’s ideological policy approach(es) would almost certainly fail to achieve these goals, leaving everyone worse off.