Fed Goes Green As Oil and Inflation Spike
Two of the most critical issues facing Americans today—energy production and inflation—have added high stakes drama to what is normally a routine and arcane process: the Senate confirmation of the leadership of the Federal Reserve, our central bank.
Charged with controlling inflation and fostering employment, the Fed has recently taken steps to expand into new arenas: fighting climate change and promoting social justice. The Senate confirmation process has come to a head over Biden nominee Sarah Bloom Raskin, who GOP senators say is too radical in her antipathy toward oil producers to serve as the Fed’s chief bank regulator. Meanwhile, legal analysts say the Fed is stepping outside of its mandate in pursuing political causes.
Climate change activists look longingly at the Bank of England and the European Central Bank (ECB), which have explicit mandates to support a transition to green energy, as models for America’s banking system. European central banks enact an environmental agenda through mechanisms such as “Green Quantitative Easing,” using taxpayer funds to finance green companies and projects. In addition, there has been a push for central banks to leverage their supervisory control over private banks and to penalize them for lending to so-called “brown” companies—oil and gas producers—with additional “green capital requirements,” which make such loans more expensive for banks to issue.
Raskin criticized America’s regulators in September 2021 for not “thinking creatively” about how to combat climate change the way other central banks have done: “Their reluctance stands in stark contrast to financial regulators in other rich countries, where policies and processes are being reimagined to accelerate a rapid, orderly and just transition to a renewable, biodiverse, and sustainable economy.”
The Fed, Raskin argued, must use its powers to incentivize a “transition away from high-emission and biodiversity-destroying investments.” For this and other reasons, Republican Senators have thus far refused to confirm Raskin. In addition, 24 state treasurers and financial officers have formed a coalition to oppose Raskin’s confirmation for her support of social causes over economic issues.
“Ms. Raskin’s repeated and forceful advocacy for having the Federal Reserve allocate capital and choke off credit to disfavored industries is alone disqualifying,” said Pat Toomey, the top Republican on the Senate Banking Committee.
To align with other central banks against fossil fuels, the Fed recently joined the Network of Central Banks and Supervisors for the Greening of the Financial System (NGFS). Internally, the Fed established a Financial Stability Climate Committee and a Supervision Climate Committee. Fed Governor Lael Brainard stated in October 2021 that the Fed should get in lockstep with other central banks regarding climate issues.
The Fed should “provide supervisory guidance for large banking institutions in their efforts to appropriately measure, monitor and manage material climate-related risks, following the lead of a number of other countries,” Brainard said.
But many Fed-watchers question the wisdom and legality of using our central bank to pursue political goals, particularly at a time of fuel crisis and escalating inflation. The Fed’s authority was defined by Congress in the Federal Reserve Act of 1913 and the 1933 Banking Act as aimed towards maintaining price stability, supporting full employment, and ensuring the “safety and soundness” of the banking system.
“The progressive movement has always used emotional arguments to undermine the rule of law because they saw the rule of law as limiting them,” former Fed official and financial analyst Chris Whalen said. “They tend to take these agencies and bend them to their specific wants and needs.”
“There’s legal legitimacy and there’s also democratic legitimacy problems here,” said central bank analyst and Wharton Business School professor Christina Parajon Skinner. “People want to use the Fed to increase the carrot-and-stick of regulation to deter banks from lending to ‘brown’ companies and to incentivize them to lend to green companies. The administrative state is doing this broadly, and that is the primary reason that the administrative state is in a legitimacy crisis.”
Similar to efforts by the Biden administration to impose vaccine mandates on employers through the Occupational Safety and Health Administration, which was struck down by the Supreme Court, progressives are attempting to push other agencies including the Fed to go beyond their mandate in pursuit of a political agenda. But by contrast to other central banks, the Fed is unique because of its explicit independence from the Presidency, by law and in practice, going back more than a century. Politicizing the Fed not only compromises its independence but raises questions about Constitutional separation of powers.
“If they want to outlaw fossil fuels, which is essentially the same thing as denying them access to capital, then Congress has to pass a law,” Skinner said. “There’s no end in sight once you start opening up the Fed in this way.”
Accessing capital through loans and bonds is a critical issue for America’s energy producers because the extraction, refining and distribution of fossil fuels comes with enormous fixed costs and long lead times before oil and gas projects can come on line.
The threat of climate-based scrutiny by agencies such as the Fed “has scared off investors tremendously,” said Daniel Turner, executive director of Power the Future. “For the first time we have Fed nominees who are targeting specific industries as punishable.”
Before oil and gas companies even start drilling, they must invest tens of millions of dollars in permitting, moving equipment, hiring labor, acquiring land rights, etc. “Why are they going to invest a dime if at any stage of that process there are multiple bureaucracies that have been told by the President to scrutinize what they are doing through the lens of climate change? Investors are not taking that risk and that’s where we are today,” Turner said.
Turner explained that even with oil prices soaring to $125 per barrel, investment in oil and gas production is still down 30 percent from what it was several years ago
“There’s every incentive from an economics standpoint for the oil industry to ramp up production,” said Ed Yardeni, former Fed economist and president of Yardeni Research. “But the climate activists certainly have run ragged over the energy industry with regulatory policies promoted as executive orders by the President from day one of this administration.”
The fossil fuel producers “are not going to increase production, not going to spend money and capital equipment to find and process more oil,” Yardeni said. “The result is a supply shortage, but they’ll have higher prices and their cash flow will be great and they’ll pay out more dividends.”
Increasingly, Europe looks more like a cautionary tale than an example to follow.
“There is no country in the world that has embraced a green agenda successfully,” Turner said. “Germany is the poster child. They’re 20 years ahead of us in terms of punishing the fossil fuel industry and the nuclear industry and embracing this radical green philosophy.”
Where Americans paid on average 11 cents per kWh for electricity in 2021, Germans paid more than three times that amount, and their costs have sharply escalated since. Having shut down their nuclear industry on false hopes that green energy would fill the gap, Germany is now dependent on Russian oil and gas for a third of their energy and their carbon emissions are higher today than they were 20 years ago.
“If Americans understood that this is the direction where we’re headed, they would fight back hard,” Turner said.
“If the Europeans think they can continue forward with net-zero [emissions], they are badly mistaken,” Whalen said. “There’s going to be a critical shortage not only for cars but for fertilizer as well,” the majority component of which is oil. The crisis in Ukraine will likely affect not only energy but food and every other industry that uses oil, including plastic.
The Fed also plans to take on social issues beyond climate change. In August 2020, the Fed announced that its employment mandate would be expanded to focus on “low- and moderate-income communities” to ensure that “maximum employment is a broad-based and inclusive goal.” How they would pursue such a goal is unclear.
Times have changed, however, and the struggle for the Fed today is not only with climate change and social justice but with its core mandate of fighting inflation, which is fast approaching double digits. Many observers question whether the Fed has the will or the independence to hike rates enough to control inflation.
To tame double-digit inflation in the 1970s, interest rates rose to nearly 20 percent, a far cry from the 1.5 percent rate increases that markets are expecting from the Fed this year. As consumer inflation exceeded 7 percent and wholesale prices hit 10 percent, the Fed dropped the Biden administration’s mantra that inflation was “transitory.”
“Right now, the reality is that inflation is not only persistent but it’s getting persistently worse,” Yardeni said. “The Fed has really lost control of the inflation mandate.”
The Fed’s only real weapon to fight inflation is raising interest rates, but doing so will impair Biden’s spending agenda by increasing borrowing costs, and any rate hikes that put the U.S. into a recession could affect the upcoming Congressional elections and Biden’s re-election prospects in 2024.
While some at the Fed will continue to prioritize climate-change, Whalen said his experience at the Fed leads him to expect that Chairman Jerome Powell will push social issues to the back burner and focus on inflation once he is confirmed by the Senate. Consequently, Powell’s confirmation is now being opposed by many progressives, including Sen. Elizabeth Warren.
“In a fairly short time, economic reality is going to take over this conversation,” Whalen said. Facing inflation and fallout from the war in Ukraine, he predicts that the Fed’s social justice initiatives “will slide into the background.”
Raskin, during last week’s confirmation hearing, backpedaled on her earlier endorsement of Fed social activism, stating that “it is inappropriate for the Fed to make credit decisions. Banks choose their borrowers, not the Fed.”
Noting the disparity from her prior statements, Sen. Toomey responded that “this is one of the most remarkable cases of confirmation conversion I have ever seen.”
Absent a dramatic change in his administration’s domestic energy policies, Biden may be forced to cut a deal to import Iranian oil soon and may even be forced to reauthorize construction of the Keystone XL pipeline from Canada, which could have brought 850,000 barrels of oil to the U.S. per day, compared to the 672,000 barrels per day we imported from Russia in 2021.
“There’s clearly a move toward a more progressive Fed,” Yardeni said, “but I’m not sure Chairman Powell wants to go there. The Fed is clearly behind the inflation curve and needs to address that issue without getting itself into the morass of climate change policy.”
The Federal Reserve was asked to comment on this article but has not provided a response.
Kevin Stocklin is a writer, film director, and founder of Second Act Films, an independent production house specializing in educational media and feature films.