The Kohn View: ...on Powell, Trump, Covid-19, and Volcker.

• Author: Kohn, Donald

Every few years, TIE sits down with a veteran policy leader to gain perspective about the current period. What have they learned since leaving office? For this issue, TIE Founder and Editor David Smick and Executive Editor Owen Ullmann interviewed former Fed Vice Chair Donald Kohn.

Smick: Topic one is Federal Reserve Chair Jay Powell. How do you evaluate the Fed's response to this unique crisis? Where and when do you see them backing off?

Kohn: Powell and the Fed have done a fantastic job. By going all in quickly, and announcing programs even though the implementation has taken longer, the announcements themselves have had a calming influence on the financial markets.

Powell acted quickly on multiple fronts. He recognized that this is a public health emergency, and he didn't want the financial markets to make it even worse. I think his emphasis both through action and messaging on keeping credit flowing to U.S. households and businesses was exactly the right message. You want the markets and the banks helping households and businesses get through this difficult period in order to get back to full employment and minimize the scarring to the economy once the crisis is over.

Powell eased monetary policy as far as he could down to essentially zero, along with some forward guidance, and intervened in the Treasury and mortgage-backed securities markets when those were disturbed and not functioning. The problems in the Treasury market were the surprise to me. You'd expect people to be running to the safety of Treasuries in a crisis, but instead there were some highly leveraged players who had to unwind positions.

The Fed kept the credit flowing in the markets by lending to dealers through the discount window and also through the repo window. This helped get credit out there to businesses to assist them in retaining employees and holding their capital together so they could survive. I think that's been quite a comprehensive and effective response.

Smick: True, when this period is over, Jay Powell and his senior team will likely end up the heroes. We're fortunate Powell comes from a background of private equity instead of monetary theory. He didn't need theory here--he needed common sense. He didn't sit and have a debate, but instead threw a truckload of money at the crisis. There wasn't time for a theoretical debate about long-term inflationary expectations or how to somehow manage the yield curve. The Fed used to come in as the lender of last resort; this time, Powell made it the buyer of last resort.

I suspect Powell's personal calculation was that it was better to overdo it and then deal with the cleanup afterward. If he didn't do enough and the U.S. economy tanked, he would go down in the history books as a Hooveresque figure. I was impressed by the pragmatic approach of his entire leadership team.

Kohn: I agree, although I would say he built upon the structures put in place by a theorist, Ben Bernanke. The country was lucky to have Bernanke at the Fed during the Great Financial Crisis. Bernanke was an expert on the Great Depression. He knew that banking systems and credit markets were critical to getting the country going again and keeping unemployment from reaching 25 percent as we saw in 1930s. I think Bernanke did a fantastic job setting the stage. Powell then took what the Fed did under Bernanke and built on it further. Both of them deserve a huge amount of credit.

Smick: Do you worry about the independence of central banks in general? When I see the pressure being put on the European Central Bank by governments, I think maybe the Fed is the last of the relatively independent central banks. Even then, the Fed post-crisis won't be quite as independent as it once was. Or are my fears exaggerated?

Kohn: I've had concerns about the independence of the Fed for the last ten years. Republicans in Congress were attacking the Fed, saying it should follow a rule rather than use its judgement, and proposing to audit the Fed. These proposals came out of the last crisis. More recently, we've seen the attacks on Chairman Powell and the Fed by President Trump.

But Powell has handled Donald Trump perfectly. Powell ignores Trump. He never rises to Trump's bait, and keeps repeating the mantra, "These are the objectives Congress gave us, and we are doing our damnedest to hit those objectives. We are nonpartisan. We are using the best economic analysis available in order to do what Congress told us to do." Powell doesn't engage with the president in his rhetoric, he doesn't get defensive, and most importantly he reached out to Congress before this crisis to make sure members understood what the Fed was doing and the importance of the Fed's independence.

Smick: I'm told that Powell and his team's meetings on Capitol Hill in the months after he took office were very effective at distinguishing the Fed from the administration.

Kohn: Powell's not a theoretical economist--though he knows a heck of a lot of economics just from his time at the U.S. Treasury department and the Federal Reserve--so he can talk to members in language they understand. His reaching out to so many both in the House and the Senate, trying to explain what the Fed was doing, put him in a good position once the crisis hit. He had credibility that what he was doing was in the national interest because he had built this goodwill over time. That's been really an important achievement on his part.

I think the Fed can and will come through this with their monetary policy independence intact. There's a lot of cooperation with the Treasury department, but Powell has been very clear that the Fed's about lending, not about spending. To the extent there's credit risk being taken, the Treasury with support from the U.S. Congress is taking the risk by backing up these various facilities.

Powell's been careful to stay on the right side of several lines here, and that'll be very helpful to the Fed as we come out of this. I don't think that we'll have the same resentment about bailing out the banks and the financial markets as we had before.

Smick: If you look at the German court decision on the ECB's bond buying, there appears to be enormous pressure on the ECB to basically make up for Germany's slowness in using more of its surplus for stimulus. Are you worried about the whole European Union falling apart, given what we're seeing in Poland and Hungary right now with the central authority on the continent being questioned?

Kohn: I do worry about the tensions within the eurozone--the political stuff in the eastern part of the European Union, the economic problems...