In the iconic movie “Goldfinger,” a murderous thug with a deadly bowler hat chases James Bond around Fort Knox as our hero stops a maniacal plutocrat from making the nation’s gold stock go radioactive. Compared to current gold conspiracies, that almost makes sense. Both President Trump and Elon Musk, among others, have doubted the security of the nation’s gold supply on nothing more than the fact that they haven’t actually seen it. To the rescue last week rode several super-conservative Members of Congress, who have introduced a bill to force an “independent” audit – read not the GAO or even Treasury – of all the gold held by or entrusted to the U.S. Gold conspiracies have come and gone since at least 1974, but the heights reached now speak to profound, widespread distrust of the government even by those who run it. This paranoia isn’t limited to inert stockpiles. It pervades two of the nation’s three branches of government and even occasionally touches the third. Thus, just because something doesn’t seem to make sense doesn’t mean it won’t happen.
I bring this up because several responses to my memo a couple of weeks back said Congress would never cotton to a sharp reduction in the payment of interest on reserve balances (IORB) or to balances held in the U.S. by foreign central banks. “Fringe thinking,” or so I was told by friends at the Fed, thinking they believed they could easily dismiss without a second thought by reminding critics that the Fed believes it needs IORB to set monetary policy and central-bank swaps to ensure financial stability.
Even critics willing to countenance the Fed counter, backed by reasoned arguments, that the Fed can and should figure out another way to set monetary policy and, less justifiably, arguing that the U.S. has no need for other central banks. Indeed, the harshest critics aren’t at all sure even that the U.S. needs its own central bank.
The battle now is joined. As we also noted last week, Senate Banking Committee Chair Scott is trying to hold the line on IORB in the face of a concerted effort by Sen. Cruz and others to save what they think is more than a trillion dollars set over the next decade to go to big and foreign banks, not to taxpayers. Notably, Sen. Scott’s statement doesn’t defend IORB; instead, it protects his prerogative as Senate Banking chair to claim regular order and bring the issue under his control.
Whether Sen. Scott can or will save IORB and central-bank swaps after due deliberation remains to be seen. Due deliberation is not exactly a hallmark of the 119th Congress. Saving the Fed now depends on forces outside Sen. Scott’s control. The regular order Sen. Scott craves depends on the scale of the problems Senate GOP leadership has crafting their version of the budget reconciliation to satisfy deficit hawks and yet still support key moderate priorities. In a choice of magnitude such as the one pending between Medicaid and IORB, the flow of funds out of the Fed faces formidable political obstacles far beyond its usual reach.
To be sure, the budget battles are so complex and chaotic that the Fed and IORB-loving banks could well come out unscathed. However, this might be just a respite, not relief. There are sound reasons to question IORB at its current scale – see, for example, the critique of a major candidate to be Fed chair, Kevin Warsh. See also the implicit, but hard, questions raised about the Fed’s portfolio in a report from the most establishment of establishment thinking, the Group of Thirty.
The Fed has yet to deign to defend itself, presumably expecting oracular comments from the Jackson Hole mountaintop in late August to set the record straight in concert with the Fed’s latest effort at a credible, forward-looking monetary policy. By the end of August, though, the budget reconciliation will be finished in some form or other, an even tougher fight will (hopefully) raise the debt ceiling, and Congress will be mired in figuring out how to appropriate the funds necessary to make the fiscal mess as operational as stop-gap measures permit.
Even before President Trump gets his new Fed chair, current Fed thinking is at risk, as are foreign banks who make the biggest target and all the other banks hoping for the $176 billion a year they now get from the Fed. With their backs against the IORB Wall, U.S. banks will also be forced to ensure that Congressional zeal to end IORB doesn’t overlook the $104 billion in operating interest expense the Fed spent last year on the MMF’s overnight reverse-repo program.
Now more than ever, irony seems to be Washington’s defining principle. It would be no surprise if the zeal to quash “big banks” and central-bank safeguards does grievous harm to the dollar’s status or if ending IORB overlooks Fed payments to giant nonbanks. It won’t be the first time political exigency beats sensible, symmetric financial policy.
Does that make sense? Of course not. But then, what does?