FRANKFURT (Reuters) -Curtailing the U.S. Federal Reserve's independence could backfire and actually push up borrowing costs while also tempting other governments to meddle in central banking, Bundesbank President Joachim Nagel warned on Wednesday.
U.S. President Donald Trump has been exerting unprecedented pressure on the Fed, demanding aggressive rate cuts while attempting to fire a Fed governor and debating whether to replace Chair Jerome Powell.
"If the Fed's independence were to be permanently
undermined politically, the consequences would be serious," Nagel said in a speech in Frankfurt. "This would endanger the economic and financial stability and prosperity of the U.S."
For now, however, it is business as usual at the Fed, which is expected to cut interest rates by a quarter of a percentage point on Wednesday, looking to prop up a quickly softening labour market.
However, the fight over the president's authority to replace Fed Governor Lisa Cook is likely to continue in the U.S. Supreme Court in the coming weeks in a case that is likely to serve as a precedent.
Nagel, who praised Powell's handling of the conflict, said that if attacks raised doubts about the Fed's commitment to price stability, long-term borrowing costs would actually rise, making it more expensive for the government to borrow, even if the Fed cut interest rates.
"There were indications that the attacks on the Fed contributed to a steeper U.S. yield curve on corresponding trading days: lower yields at the short end and higher yields at the long end," Nagel said. "This shows that the financial markets certainly understand the importance of central bank independence."
The broader issue is that government interference in the Fed could serve as a precedent for other nations to put pressure on their own central banks, forcing them to cut interest rates more than warranted, endangering financial stability.
(Reporting by Balazs Koranyi; Editing by Sharon Singleton)
