"Fed Independence Undermined Is a Factor Eroding Market Confidence"

Shinhan Investment Corp. analyzed on the 23rd that U.S. President Donald Trump's remarks undermining the independence of the Federal Reserve (Fed) "erode market confidence, stimulate inflation, and cause a decline in currency value."

On the 22nd (local time), President Trump met with reporters in the Oval Office and said, "I have no intention of dismissing (Powell)," adding, "I hope he will be more proactive in lowering the benchmark interest rate."

Until recently, President Trump had made remarks suggesting that he could dismiss Chairman Powell. Through social media, he referred to Powell as "too slow" and a "major failure," stating, "If interest rates are not lowered, the economy could slow down."

On the 17th as well, President Trump said, "If I want his resignation, he will step down very quickly," and there were even reports that the White House was internally reviewing the possibility of dismissing Chairman Powell.

Roh Donggil, a researcher at Shinhan Investment Corp., explained that such remarks by President Trump are the cause of eroding market confidence. He said, "If confidence in monetary policy is broken, there is a greater possibility that political demands will be reflected in monetary policy," and added, "Policymakers generally want to lower interest rates, which can lead to inflation or result in poor decision-making."

He continued, "The value of the dollar ultimately reflects trust in the U.S. economy, interest rate differentials, and global demand (for financial assets such as stocks and bonds, as well as real assets). If the Fed succumbs to political pressure, it becomes difficult to trust the dollar. This is the background for weakened investor sentiment toward U.S. risk assets and dollar depreciation."

Shinhan Investment Corp. predicted that President Trump's attempts to undermine the Fed would impose costs on the real economy. He said, "The Peterson Institute for International Economics (PIIE) has published a model regarding Trump's intervention in monetary policy," and explained, "Two types of shocks can be expected: first, an inflation shock, and second, a growth rate shock."

He said, "The PIIE model projects that if the Fed loses its political neutrality, inflation could settle at a level 2 percentage points higher," and added, "There have been reports that central banks maintaining political neutrality typically lower inflation by 1 to 6 percentage points. Considering this, the PIIE's 2 percentage point inflation estimate is relatively conservative."

He emphasized, "U.S. inflation increases the investment risk of dollar assets, raising the risk premium. The PIIE model points out the possibility of capital outflows due to a higher risk premium, and the resulting reduction in real investment lowers potential GDP."

He said, "While the U.S. growth rate may rise by about 1 percentage point in the short term, it will be permanently reduced by 0.5 percentage points," and added, "What is noteworthy is the improvement in non-U.S. growth rates."

He continued, "As U.S. investment and purchasing power decline, capital shifts to non-U.S. regions. The main beneficiaries are expected to be Japan, Mexico, Germany, and Canada, in that order. Even China could see its growth rate increase in the initial stage of investment realignment. Thus, inflation and growth rate changes resulting from weakened Fed independence could favor non-U.S. regions."

In particular, he predicted that the price of gold, a safe-haven asset, would remain high until concerns over Fed independence are resolved. He said, "Gold has attracted attention as a safe haven amid tariff and Fed independence concerns," and added, "Considering the exchange ratio between gold and the stock market, there is still room for further gains." He further stated, "Until inflation and concerns over Fed independence are resolved, the gold-to-stock exchange ratio is expected to continue rising."