On January 9, the US Department of Justice served the Federal Reserve with grand jury subpoenas and threatened a criminal indictment related to Fed Chair Jerome Powell’s testimony before a Senate committee on renovations of Fed buildings. As Powell put it in a video message, the move is a direct consequence of the Fed setting interest rates based on its “best assessment of what will serve the public,” rather than bowing to “threats and ongoing pressure” to lower rates from President Donald Trump.

The United States has been here before. Harvard’s Gabriel Chodorow-Reich compares Powell’s defiance to that of Fed governor Marriner S. Eccles, who resisted President Harry Truman’s demands to keep interest rates low in 1951, and contrasts it with Fed Chair Arthur Burns’ capitulation to President Richard Nixon in 1971, which fueled years of high inflation. It is fortunate that Powell has so far emulated Eccles, though the US Congress should do more to safeguard the Fed’s independence, including by reducing budget deficits.

But the Fed’s independence has already been “significantly impaired,” warns MIT’s Gary Gensler. For example, Trump has “asserted that all interpretations of law and review of agency expenditures, including by the Fed, fall within the purview of the White House and Justice Department,” and he has “taken control of all Fed regulatory policy.” With Powell’s term ending in May, it is not at all clear that the next chair will have the policy space or the political resolve to serve the public interest.

In fact, Trump has given us every reason to expect that he will appoint a successor willing to give him the rate cuts he craves. As Brown University’s Şebnem Kalemli-Özcan explained last year, populist strongmen often favor low interest rates, because they need to “prevent their supporters from realizing how misguided their policies are until it is too late.” In Trump’s case, lower rates might offer a “temporary reprieve from the bad effects of tariffs” before November’s midterm elections, though the long-term effects would almost certainly be disastrous.

Anne O. Krueger of the Johns Hopkins University School of Advanced International Studies describes what those effects might be. Monetary policy that is “looser than warranted” would stoke inflation, weaken the Fed’s “ability to respond to a future downturn,” and undermine “global economic stability.” The hyperinflation that Germany endured after World War I should serve as a cautionary tale.

The University of Pennsylvania’s Mohamed A. El-Erian is less worried. To be sure, the US would pay a high price if “political flexibility” takes precedence over a “technocratic commitment to price stability,” and the effects would likely be felt far and wide, given the dollar’s global role. But robust “internal and external checks and balances” – from the structure of the Federal Open Market Committee to the memory of Burns’ mistakes in the 1970s – are likely to prevent the worst outcomes. There may even be a way to turn the current dispute into “something constructive,” with politicians, economists, and market participants reaffirming the importance of an independent and reformed Fed.

CAMBRIDGE – There is no direct precedent for the US Department of Justice’s threat of a criminal indictment of Federal Reserve Chair Jerome Powell, or Powell’s public rebuke of it. But as Mark Twain supposedly observed, though history doesn’t repeat itself, it often rhymes. In fact, two episodes offer insight into the current standoff and the future of Fed independence.

The first began 75 years ago this month. With annualized inflation on track to surpass 12% in the first quarter of 1951, the Fed was under pressure to raise interest rates. But the Korean War was underway, and the Treasury wanted lower interest rates to ease financing of the associated debt. That January, after a series of increasingly sharp exchanges, the Fed defied the Treasury by lowering the bond price, effectively raising rates.

Furious, President Harry Truman called the Federal Open Market Committee to the White House and accused its members of jeopardizing the fight against communism. The White House then announced to the press that the FOMC had agreed to “maintain the stability of Government securities,” and the Treasury issued a statement saying that the low-interest-rate peg on government bonds would be maintained.

Marriner S. Eccles, a member of the Fed’s Board of Governors, was defiant. He leaked the minutes of the White House meeting, which showed that the FOMC had done no such thing. A few more weeks of wrangling followed. But on March 4, the Treasury-Fed Accord was announced, granting the Fed full authority over monetary policy. Inflation quickly fell. Eccles became an icon of the Federal Reserve System, with the building that houses the Board of Governors’ main offices named after him.

The second episode occurred 20 years later. Fearing a weak economy while campaigning for reelection, President Richard Nixon attempted to coerce the Fed into monetary easing in the summer of 1971. His administration engineered a series of leaks suggesting that he and Fed Chair Arthur Burns were at loggerheads. The messages indicated that Nixon was considering either expanding the membership of the Fed Board or reducing its independence by bringing it under the executive branch, and that he had rejected Burns’ request for a salary increase – though Burns never requested one.

Unlike Eccles, however, Burns capitulated, pursuing unusually loose monetary policy in 1972. The resulting acceleration in price growth, together with commodity-price shocks, led to America’s worst bout of inflation since World War II.

These episodes hold important lessons. For starters, sometimes central bankers need to defend themselves publicly. Powell likely had the Eccles precedent in mind when he decided to release a statement disclosing the DOJ’s investigation into his testimony to the Senate Banking Committee about renovations to Fed headquarters (including, ironically, the Eccles Building). “The threat of criminal charges,” he stated bluntly, “is a consequence of the [Fed] setting interest rates based on our best assessment of what will serve the public, rather than following the preferences of the President.”

The second lesson, which Powell also seems to have internalized, is that letting politicians dictate monetary policy can have lasting consequences. The “start-stop” monetary policy of the 1970s – a direct result of Burns’ acquiescence to Nixon – allowed inflation expectations to drift upward. This trend was reversed only after Paul Volcker took over at the Fed and relied on prolonged high interest rates to re-establish policy credibility. The costs of that correction were high: the “Volcker Shock” contributed to the 1980-82 recession, during which unemployment reached double-digits.

By contrast, the anchoring of long-term inflation expectations at 2% in 2021-23 almost certainly tempered the surge in inflation and allowed disinflation to occur without a severe weakening of the labor market. With inflation still running mildly but stubbornly above the Fed’s 2% target, now is an especially precarious time to question Fed independence.

But further threats to that independence loom, and may require further action. Like Nixon, Trump may want to reduce unemployment to help his political prospects. If the public comes to believe that the central bank will tolerate somewhat higher inflation for political ends, firms will start raising prices in advance. The result will just be higher inflation. Breaking this political-monetary cycle is a key reason why Congress created an independent central bank.

Eccles, who played an important (if somewhat reluctant) role in drafting the 1935 Banking Act that established the modern Fed, recognized Congress’s vital role in asserting the central bank’s operational independence. As he put it in his 1951 address, acknowledging his role in leaking the minutes of the........

© Project Syndicate