Trump's Intense Entanglement with the Federal Reserve

Morning FX

Recently, Trump has been quite busy. Aside from competing with Europe over Greenland, he has also been relentlessly criticizing the Federal Reserve at home.

1. The investigation into Powell faces massive opposition

The criminal investigation launched by Trump against Powell has triggered a rare wave of opposition that crosses national, party, and sectoral lines: Three former Federal Reserve Chairs—Bernanke, Greenspan, and Yellen—along with more than a dozen former Fed governors, issued a joint statement in opposition; Wall Street executives, represented by the CEOs of JP Morgan and BNY Mellon, warned that the normalization of political interference would erode confidence in the US dollar; several key Republican senators “defected,” including Senate Banking Committee member Thom Tillis and Senate Majority Leader John Thune, with Democrats, of course, condemning the move even more strongly. In addition, ECB President Lagarde and Bank of England Governor Bailey, along with central bank governors from 11 countries, also issued a joint statement supporting Powell.

If this massive wave of opposition is not appeased, it could become a huge obstacle for the nomination of the next Fed Chair. Under such pressure, Hassett and Bessent have started to look for a way out, hinting that as long as information is provided in cooperation, the matter can be put to rest. At the same time, this seems to have contributed to Trump’s sudden change of tone regarding the Fed candidate last Friday…

2. Hassett exits with regret—who will be the next Chair?

On Friday night, Trump stated he preferred Hassett to remain in his current position (Director of the White House National Economic Council). As a result, Hassett’s odds of being elected, as shown on polymarket, plummeted,and the market quickly shifted its bets to Kevin Warsh. In addition, Trump announced in Davos last night that the next Fed Chair would be male, confirming Bowman’s elimination from contention.

Chart  polymarket: Probabilities of Fed Chair Candidates

The most loyal Hassett missed out on the position of Fed Chair, which for markets means that the most dovish Fed policy path is fading. At the end of Friday’s session, US dollar interest rates rapidly climbed, with the 10Y US Treasury yield officially breaking through the 4.2% resistance level and, spurred by the Greenland incident, quickly approaching the 4.3% mark.

Chart: 10Y US Treasury Yield Breaks Upwards Technically

So among the remaining three candidates, who will ultimately win? I cast my vote for Warsh. On the path to advancing the Fed Chair nomination process, Warsh is the candidate with the least resistance, as he has experience as a Fed governor, is familiar with central bank operations, and is committed to Fed independence. Of course, my vote is not important at all, just as Denmark is unimportant to the US.

To sum up, here are the possible market reactions corresponding to each candidate’s victory:

• Nominate Warsh: The Fed’s independence will be reinforced, US dollar interest rates are likely to continue rising, and the credibility of the dollar will be somewhat restored, which is bullish for the US Dollar Index.

• Nominate Waller: Monetary policy would be more dovish and relatively susceptible to influence from the Trump administration, so the market may repeat the logic of Hassett’s nomination, with the dollar index and US dollar interest rates coming under downward pressure.

• Nominate Riedl: In terms of policy, he supports rate cuts but maintains Fed independence, which would be mildly bearish for the dollar index and US dollar rates. However, he has no central banking experience, so the subsequent nomination process could face significant resistance, and this uncertainty is also bearish for the dollar.

• Nominate someone else: Given Trump’s personality, anyone could be nominated...

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