Trump could replace Fed Chairman Jerome Powell and push Congress to change the Federal Reserve Act to require the central bank to take orders from the executive branch.
One of the most surprising policy ideas gaining traction in the United States recently is for President-elect Donald Trump and his team, upon taking office, to actively depress the dollar in an effort to boost business competitiveness. American exports and reduce the trade deficit. If Trump tries, will he succeed? And what could – and probably would – go wrong?
To the question of whether Trump could weaken the dollar, the answer is clearly yes. Whether this would improve the competitiveness of U.S. exports and strengthen the U.S. trade balance is another question.
The brute force method to lower the dollar would be to rely on the Federal Reserve to ease monetary policy. Trump could replace Fed Chairman Jerome Powell and push Congress to change the Federal Reserve Act to require the central bank to take orders from the executive branch. The dollar exchange rate would weaken considerably, the desired goal.
However, the Fed would not let this happen without reacting. Monetary policy is developed by the twelve members of the Federal Open Market Committee (FOMC), and not just by its chairman. Financial markets, and even a complicit Congress, would view repealing the Fed’s independence or filling the FOMC with complacent members as mission impossible.
And even if Trump managed to “tame” the Fed, a looser monetary policy would lead to an acceleration in inflation, which would neutralize the impact of the fall in the dollar exchange rate. There would be no improvement in American competitiveness or the trade balance.
Additionally, the Treasury Department could use the International Emergency Economic Powers Act to tax foreign official holders of Treasury securities, by withholding a portion of their interest payments. Central banks would thus be less tempted to accumulate dollar reserves, which would reduce demand for greenbacks. This policy could be universal, or friends and allies of the United States, as well as countries that meekly limit their accumulation of dollar reserves, could be exempted.
The problem with this approach to weakening the dollar is that reducing demand for U.S. Treasuries would drive up interest rates. This radical measure could indeed reduce the demand for Treasury bills dramatically. Foreign investors may be required not only to slow their accumulation of dollars, but also to completely liquidate their existing holdings. And while Trump could try to dissuade governments and central banks from liquidating their dollar reserves by threatening them with tariffs, a substantial part of the US public debt held abroad – on the order of a third – is owned by private investors, who are not easily influenced by tariffs.
More conventionally, the Treasury could use dollars from its Exchange Stabilization Fund to buy foreign currencies. However, increasing the supply of dollars in this way would be inflationary. The Fed would react by withdrawing these same dollars from the markets, and thus sterilize the impact of the Treasury’s action on the money supply.
Experience has shown that “sterilized intervention,” as this combined Treasury and Fed operation is called, has very limited effects. The latter only become pronounced when the intervention signals a change in monetary policy, in this case in a more expansionary direction. Given its fidelity to its 2% inflation target, the Fed would have no reason to move in a more expansionary direction – provided its independence is maintained.
Finally, there is talk of an agreement at Mar-a-Lago, an agreement between the United States, the Eurozone and China, echoing the historic Plaza agreement, to engage in coordinated policy adjustments in order to weaken the dollar. Complementary measures taken by the Fed, the European Central Bank and the People’s Bank of China would increase interest rates. Chinese and European governments could also intervene in the foreign exchange market, selling dollars to strengthen their respective currencies. Trump could invoke tariffs as leverage, just as Richard Nixon used an import surcharge to force other countries to revalue their currencies against the dollar in 1971, or as Treasury Secretary James Baker invoked the threat of American protectionism to seal the Plaza Accord in 1985.
In 1971, however, growth in Europe and Japan was strong, so their revaluation was not a problem. In 1985, it was inflation, not deflation, that posed the immediate danger, predisposing Europe and Japan to monetary tightening. On the other hand, the euro zone and China are currently facing the double specter of stagnation and deflation. They should weigh the danger of monetary tightening for their economies against the damage caused by Trump’s tariffs.
Faced with this dilemma, Europe would likely give in, accepting tighter monetary policy as the price of rolling back Trump’s tariffs and preserving security cooperation with the United States. China, which views the United States as a geopolitical rival and seeks to decouple, would likely move in the opposite direction.
Thus, a supposed Mar-a-Lago deal would degenerate into a bilateral US-EU deal that would do little good for the United States while causing considerable harm to Europe.
Copyright: Project Syndicate, 2025.
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