Originally published at Project-Syndicate | Nov 22nd, 2024
With unified Republican control of the White House and Congress, US President-elect Donald Trump is poised to pursue radical economic policies. By undermining the independence of the Federal Reserve, enacting massive tax cuts, and loosening cryptocurrency regulations, he risks triggering an inflationary surge.
BERKELEY – In 1919, John Maynard Keynes famously declared, “There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency.” Keynes attributed this insight to Bolshevik leader Vladimir Lenin, who argued that currency debasement was the “best way to destroy the capitalist system.”
Recent events offer a painful reminder of Keynes’s prescience. The 2021-23 inflation surge in the United States, though mild compared to the aftermath of World War I, was enough to spark widespread voter frustration and anger. The outcome is unified Republican control of the White House and Congress under a president-elect who, just four years ago, tried to overturn his own electoral defeat.
Now, Donald Trump’s second administration is poised to introduce radical economic-policy changes. While these measures could have far-reaching consequences, many voters may not realize what they are in for.
Playing with Fire
With the election having given the Republicans a political trifecta, some soon-to-be-empowered Trump supporters appear eager to risk higher inflation. Three components of Trump’s economic agenda, in particular, pose a threat to US price stability: limits on the independence and authority of the Federal Reserve; extensive tax cuts despite massive federal budget deficits and debt (and reliance on magical thinking to maintain fiscal sustainability); and the integration of lightly regulated cryptocurrencies into America’s financial and fiscal systems.
These policies complement each other. Trump’s bid to gain greater influence over Fed decisions, for example, is tied to his plan to ease cryptocurrency regulations and explore ways to pay off the national debt with digital coins.
Techno-libertarians like Elon Musk often view the Fed’s ability to print money as a dangerous concentration of government power that enables massive federal budget deficits. Instead, they advocate a system of “sound money” based on potentially competing decentralized cryptocurrencies. This approach, combined with deregulation-fueled economic growth and impractically large cuts to government spending (Musk claims that $2 trillion can be cut), would ostensibly eliminate fiscal profligacy.
Let’s start with the Fed. Some critics blame the surge in US inflation on monetary policy, accusing the Fed of destabilizing prices through unchecked money printing to finance federal budget deficits. But this narrative is at odds with reality. The Fed exemplifies modern best practices in monetary policy, targeting low inflation while maintaining independence from political pressures, including those related to public deficits. Although this model has been immensely successful and adopted worldwide, Trump and his allies are seeking to undermine it by curtailing the Fed’s independence and authority.
The chart shows global and US consumer-price inflation rates since 1980, revealing several key trends. A significant reduction in worldwide inflation followed the introduction and widespread adoption of central-bank independence beginning in the late 1980s. Advanced-economy central banks, adhering to similar best practices in monetary policy, have generally maintained inflation rates close to their target of around 2%. In other words, contrary to detractors’ claims about the Fed’s excessive monetary largesse, the US is not an outlier.
In fact, four decades of data show that the 2021-23 inflation spike was the outlier. It affected all countries exposed to the extraordinary shocks of the post-pandemic economic reopening, unleashed pent-up demand, and Russia’s invasion of Ukraine. By 2024, however, inflation had nearly returned to target levels without triggering significant increases in unemployment.
Moreover, the notion that the Fed bankrolls US budget deficits by printing money for the Treasury to spend is pure fiction. In normal times, the Fed controls inflation through its policy interest rate, raising it to push inflation down when necessary and lowering it when the economy is weak and inflation is subdued. By closely following this approach – independent of political considerations – the Fed fosters an environment that encourages market actors to expect moderate long-term inflation and adjust prices accordingly. The result is a virtuous cycle of price stability.
What role, then, does money creation play in this system? Based on the interest rate it sets, the Fed simply adjusts the money supply to align with market demand, creating or withdrawing cash as needed.1
The success of central banks over the past four decades stems directly from the independence that domestic critics of US monetary policy seek to strip from the Fed. Market confidence, built over decades of strong performance by professional and independent central banks, stabilized inflation expectations during the recent price surge, allowing inflation to fall rapidly toward target levels without causing a global recession.
Far from enabling fiscal deficits by keeping borrowing costs low, many central-bank leaders have consistently emphasized the importance of fiscal consolidation and maintained appropriately restrictive interest rates, even in the face of high public deficits. In this era of economic turmoil, it is the central banks – not the politicians – that have served as the “adults in the room.”
Fiscal Pressures and Crackpot Solutions
Similarly, the claim that the Fed is responsible for US fiscal deficits gets things exactly backward. In reality, the larger fiscal deficits implied by Trump’s proposed tax cuts pose a real danger to the Fed’s independence and represent the second threat to price stability.
The Committee for a Responsible Federal Budget estimates that Trump’s proposals would increase the federal deficit by nearly $7.8 trillion between 2026 and 2035, even after factoring in projections of increased tariff revenues. This increase would add to a deficit and national debt that are already at historic highs. If Trump successfully pressures the Fed to adopt his well-known preference for low interest rates, the money-printing myth could graduate from fiction to fact.
The antidote to fiscal recklessness is not to undermine the Fed. It is for the political branches of government to recognize the unsustainable trajectory of US fiscal policy, avoid exacerbating it, and pursue sensible tax and spending reforms. Regrettably, some in Congress – seemingly with Trump’s backing – are instead championing the embrace of cryptocurrency schemes that could weaken the Fed, boost the national debt, and destabilize financial markets. In October 2024, the Trump family launched its own cryptocurrency venture, World Liberty Financial, and began marketing tokens – so Trump’s financial self-interest, like that of some of his allies, is aligned with a crypto-friendly policy approach.
While political meddling in monetary policy and fiscal excess have long threatened price stability, this third component of Trump’s inflationary triple threat is unprecedented. The fundamental problem is that most cryptocurrencies, aside from stablecoins, are disconnected from the real economy and operate beyond the reach of public policy. Consequently, they introduce significant uncertainty into financial transactions, making them an unreliable foundation for economic decisions. Even stablecoins are only as good as the assets backing them.
Despite the numerous risks posed by an unregulated cryptosphere, its advocates continue to misrepresent the Fed’s solid track record to promote their agenda. Republican Senator Mike Lee, for example, has characterized the US dollar as “unstable,” owing to its alleged role in enabling the federal deficit, and has introduced legislation to prohibit the Fed from launching its own digital currency. If enacted, the prohibition would leave more room for unregulated cryptocurrencies, potentially facilitating illicit activities such as money laundering and terrorist financing. By providing alternative means of exchange, these cryptocurrencies could also diminish the Fed’s influence over the economy.
Likewise, Republican Senator Cynthia Lummis has cited “soaring inflation rates” and the national debt to justify her proposal to establish a “strategic Bitcoin reserve.” In her bill, Lummis claims that such a reserve would benefit the US government’s balance sheet, touting Bitcoin’s “resilience, widespread adoption,” and its role as a “medium of exchange and a store of value for more than a decade.”
Under Lummis’s plan, a reserve of one million Bitcoins would be dedicated to reducing the US national debt. The cost of acquiring cryptocurrencies, she claims, would be offset by “utilizing certain resources of the Federal Reserve System,” offering few specifics. What is clear, though, is that this plan would undermine the Fed’s balance sheet, limit its effectiveness, and expose American taxpayers to significant losses if and when the bet on Bitcoin fails.
The charts below show the extreme volatility of cryptocurrencies like Ethereum and Bitcoin compared to the supposedly “unstable” dollar and even to the more volatile S&P 500. Given their unpredictability, granting cryptocurrencies major monetary or financial roles would not enhance price or employment stability. On the contrary, it would almost certainly lead to greater instability. Integrating cryptocurrencies into the US financial system without stringent regulatory oversight is a surefire recipe for crises, recessions, massive government bailouts, and even larger public debts.
Casino America
Despite these risks, Trump has endorsed Lee’s proposal to bar the Fed from launching a digital currency and supports the creation of a national Bitcoin reserve to purchase government debt. He has also vowed to loosen regulations to make the US “the crypto capital of the planet.” After all, what could go wrong with knee-capping the Fed while making the US financial system more like a casino?
To be sure, central banks are not perfect. Most advanced-economy central banks were slow to address the recent surge of inflation, waiting until 2022 to begin raising interest rates. By contrast, their counterparts in emerging markets acted earlier, stabilizing inflation expectations and benefiting from doing so before the Russia-Ukraine war intensified economic pressures.
Nevertheless, the decades-long track record of independent, inflation-targeting central banks is undeniably impressive, especially compared to what came before. This success explains why the model has become the global standard and why countries that eschew it, such as Argentina and Turkey, continue to grapple with high and persistent inflation.
The incoming Trump administration has pledged to pursue a series of inflationary macroeconomic and trade policies, including massive tax cuts, steep import tariffs, and mass deportations. In the face of such potentially destabilizing actions, the Fed’s credibility and robust oversight of financial markets are more critical than ever, yet both are now at serious risk.
More than a century ago, Keynes observed that during periods of high inflation, “all permanent relations between debtors and creditors, which form the ultimate foundation of capitalism, become so utterly disordered as to be almost meaningless,” reducing the “process of wealth-getting” to “a gamble and a lottery.” Those words have never been more apt.
Maurice Obstfeld: A former chief economist of the International Monetary Fund, is Senior Fellow at the Peterson Institute for International Economics and Professor of Economics Emeritus at the University of California, Berkeley.