For the third time in the past 5 years, the Federal Reserve officially ended an experiment with quantitative easing (QE), known this time around as QE3 (uncreatively, the prior two became known as QE1 and QE2). The end of quantitative easing presents the next obvious question: When will the Federal Reserve hike rates (ignoring for the moment, of course, whether the Fed might implement QE4 before any rate hike)?
The current “consensus” among economists and other Fed watchers is that rates may rise sometime in June 2015. But, is it likely that the Fed will really be able to raise rates in 2015?
Political Nature of the Fed
One overlooked component among Fed observers is the political nature of the U.S. central bank. Statutorily, the Fed’s sole responsibility as a political institution is to balance maximum employment with low inflation in the most prudent manner possible. This vague dual mandate (at least in implementation) leaves lots of room for the Federal Open Market Committee (FOMC) to generally listen to whatever voices seem politically or economically reasonable.
A Little History on the Fed Funds Rate
Given the political nature of Federal Reserve policy, one might ask: What has the Federal Funds rate been by U.S. president? The following graphic is a look at this issue from the effective Federal Funds rate perspective (please note that the y-axis is scaled differently for every president).
Starting from the top, President Eisenhower saw two tightening cycles during his presidency, although the effective Federal Funds rate never got much above 4%. Second from the top is President Kennedy. The graph is shortened because of Kennedy’s assassination. Overall, Kennedy’s entire presidency was generally one of tightening, with the Fed’s effective rate reaching around 3.5% at the end of Kennedy’s life. Third from the top is President Johnson. Akin to President Eisenhower, President Johnson saw the Fed implement two tightening cycles during his tenture, with the Fed Funds rate reaching a little over 6% at the end of his Administration.
Following President Johnson is President Nixon. President Nixon came into office with the Federal Reserve in the middle of a tightening cycle. Shortly thereafter, the Fed began lowering the target Fed rate, bottoming at around 4%. The Fed Funds rate didn’t stay at 4% very long, with the Fed quickly increasing its short-term borrowing rate up to a high of about 14% at the end of Nixon’s tenure. In contrast to President Nixon, President Ford came into office with the Fed in the middle of a loosening cycle. Briefly, after about a year in office, the Fed raised its target rate.
Following President Ford was the Carter Administration. Of all the presidential administrations that would complain about Fed policy, the Carter Administration likely has the most reason to gripe. After the Fed let inflation get out of control, they hiked interest rates to as high at 20% before Cater lost his reelection bid to President Reagan. Reagan came into office at about the time the Fed felt it was getting a handle on inflationary pressure. Thus, the Fed target rate declined steadily to around 5% during Reagan’s second term. About half way through Reagan’s second term, the Fed initiated a tightening cycle, bring the rate to around 8% at the end of Reagan’s Administration.
Following Reagan’s time in office, the first President Bush saw the Fed Funds rate only briefly rise during the initial few months of his presidency, after which the Fed began addressing the early 90s recession. Interestingly, President Clinton generally saw a stable Federal Funds rate, increasing at the beginning of his presidency, slightly declining towards the end, and then increasing again during the technology boom run-up. Following President Clinton, President Bush (II) saw two very textbook-like loosening cycles and one tightening cycle.
Lastly, President Obama came to office when the economy was just recovering from the housing market bubble. If one looks closely, the Fed Funds target rate has not been changed during his tenure (the jumps in the graph are the daily cycles in the effective rate; observe the y-axis which shows the effective rate going from 0 to about 0.6%).
With the lack of any movement in the Federal Funds target rate during President Obama’s administration so far, one has to wonder if President Obama will be the first U.S. president to never see a Fed rate hike. The answer is likely yes.