Is Marvin Goodfriend the Worst Fed Nominee of All Time?
Yesterday Donald Trump nominated Marvin Goodfriend to the Federal Reserve Board of Governors, one of the numerous vacancies that have emerged over the course of the past year. While his prior nominations of Jay Powell as Chairman and Randal Quarles as Vice Chair represented a disappointing commitment to the status quo, his selection of Goodfriend is a dangerous act of outright betrayal to Trump’s core constituency of working class voters.
The timing of the decision is ironic. After all, while Trump is busy lobbying Senate Republicans to support his desired tax cuts, he has decided to nominate a would-be central banker who wants to effectively tax the bank accounts of American citizens.
Last year at the Fed’s Jackson Hole gathering, Goodfriend presented a paper advocating for the Federal Reserve to join its peers in Japan and Europe in embracing a policy of negative interest rates. He compares the idea to central banks abolishing the gold standard, which he viewed as a pesky restriction on central banks ability to achieve price stability. Of course, to a certain extent he’s correct. A gold standard limited the action of central bankers in much the same way that guard rails prevent reckless drivers from launching themselves off treacherous cliffs. By eliminating the zero bound for interest, Goodfriend is now proposing eliminating the mechanical limits to how fast a reckless driver can go.
The idea here is simple. As Goodfriend sees it, the Fed’s ability to stimulate the economy in the short term has been severely limited due to long-term interest rates being near zero. This is why the Fed and other central banks began various rounds of quantative easing, using their balance sheets to buy treasuries and other securities in order to flood financial institutions with liquidity and encourage them to invest in other financial assets. Goodfriend accurately notes some of the major risks with this approach:
Central banks will be tempted to rely even more heavily on balance sheet policy in lieu of interest rate policy, in effect exerting stimulus by fiscal policy means via distortionary credit allocation, the assumption of credit risk, and maturity transformation, all taking risks on behalf of taxpayers, and all moving central banks ever closer to destructive inflationary finance.
The problem is that Goodfriend’s alternative is even worse. What negative interest rates do is effectively tax banks for holding onto cash, providing them incentive to loan reserves out. Of course, just as banks have passed on the Fed’s low interest rate to their own customers, the result of negative interest rates is depositors paying for the use of their own bank account. Unsurprisingly, when negative interest rates are implemented, we have seen people increasingly withdraw cash from banks. As such, negative interest rates have failed to accomplish much but prop up the market for personal safes.
Goodfriend is not blind to these practical burdens to negative interest rates, and later in his paper outlines three ways banks can overcome the pesky will of consumers. The first is for central banks to escalate their war on cash and to outright ban paper currency. He notes that this may be both unpopular and impractical in the short term, so he goes on to suggest that banks should consider pricing cash differently than bank deposits. Imagine depositing a $10 dollar bill into your bank account only for it to show up as $9 in your bank. Goodfriend also suggest this price could fluctuate over time:
The deposit price of paper currency would adjust flexibly much as floating exchange rates adjust to equilibrate the foreign exchange market when international interest rates differ from each other.
Goodfriend goes on to propose that central banks should issue a digital currency alongside cash that would not be priced differently than bank deposits. The Federal Reserve already may be taking steps in this direction. Just this week New York Federal Reserve President William Dudley noted that the Federal Reserve was considering its own digital currency, following the lead of countries like Russia and China in issuing their own state-backed cryptocurrency. As Goodfriend sees it, the combination of devaluing bank notes and introducing Fedcoin could effectively end America's demand for cash and, in doing so, eliminate the largest burden central banks face in their economic planning.
Goodfriend’s views on negative interest rates, and his desire to eliminate the ability of Americans to protect themselves from them, makes him one of the most dangerous economists to ever be nominated to the Federal Reserve. To make it even worse, he is being embraced by Fed critics as a “reformer”.
House Financial Services Committee Jeb Hensarling, who has consistently pushed for Fed reform since taking over the position, praised Goodfriend for understanding “that consulting monetary policy rules can provide both instructive guidance for the Fed and transparency for the public.” Unfortunately the “transparency” Goodfriend supports is not remotely similar to Ron Paul’s desire to Audit the Fed, but rather “by presenting the FOMC's independently chosen monetary policy decisions against a familiar Taylor-type reference rule for monetary policy.”
Of course any value possibly gained by transitioning from a PhD standard of Fed Chairman discretion towards a rule is lost when said rule would possibly allow for negative interest rates. Instead of correcting course from the interventionism of the Greenspan-Bernanke-Yellen, Goodfriend is doubling down on the same fundamental misunderstanding on the role of interest rates in an economy. Rather than a macroeconomic policy tool that can be used by central planners to speed up and slow down an economy, interest rates are instead important market prices coordinating the supply and demand of money on the market.
At the end of the day, having someone like Marvin Goodfriend at the Fed is the equivalent of having a Flat Earther run NASA.