Senator Pat Toomey on Fed Governance, Monetary Policy, and the future of Digital Assets

Pat Toomey is a former senator from the state of Pennsylvania and served on the Committee on Banking, Housing, and Urban Affairs. In Pat’s first appearance on the show he discussed his career in public service, Fed master accounts, the future on monetary policy, his quest for Fed accountability, the looming debt issue, and much more. 

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Read the full episode transcript:

This episode was recorded on January 23rd, 2025

Note: While transcripts are lightly edited, they are not rigorously proofed for accuracy. If you notice an error, please reach out to [email protected].

David Beckworth: Welcome to Macro Musings, where each week we pull back the curtain and take a closer look at the most important macroeconomic issues of the past, present, and future. I am your host, David Beckworth, a senior research fellow with the Mercatus Center at George Mason University. I’m glad you decided to join us. 

Our guest today is Senator Pat Toomey. Senator Toomey served the state of Pennsylvania as a senator from 2011 to 2023. During that time, Senator Toomey served on the Committee on Banking, Housing, and Urban Affairs and was active in the debate on financial and monetary policy. Senator Toomey joins us today to discuss these experiences and where he sees monetary policy, fiscal policy headed in the next few years. Welcome to the show, senator.

Pat Toomey: Thanks, David. Thanks for having me.

Beckworth: It’s great to have you on, and we have a connection. Chris Russo was a former staff member of yours, a chief economist, and he was also a colleague of ours here at Mercatus. He went to you, and you guys did great work, we followed it closely.

Toomey: He did a great job. He’s a good man, and he did great work for the committee.

Senator Toomey’s Committee Work

Beckworth: Okay. I want to talk about your committee work because you were a ranking member ’21 through ’22, but you were on the committee the entire time you were in the Senate. That committee is very near and dear to what we do here at the Monetary Policy Program. We want to talk about the Federal Reserve, about Fed master accounts, a number of issues with you I’m excited to get into. Maybe we can step back just for a minute, and you can tell us about the contours of that committee. What’s it like to be on the committee, and then as a ranking member?

Toomey: As a ranking member, the defining characteristic is being frustrated. The committee has a fairly broad jurisdiction. We’re responsible—I’m not there anymore—but the Banking Committee has oversight responsibilities over all the financial services regulators, including the Fed, the OCC, the FDIC, the SEC—not the CFTC, that’s in the ag world. That oversight, that’s a lot because there’s a tremendous amount of regulation that comes out of those entities. Of course, at the Fed, you also have monetary policy. One of the primary responsibilities is to ensure that those responsibilities are being exercised properly and prudently by those regulators.

Another important thing that people sometimes overlook, it is the process of vetting and confirming nominees that requires Senate approval to those high-ranking positions. That is another responsibility of the committee. One of the things that is really unfortunate, and this is a generalization that I think is a fair characterization of the Senate in general, but the Banking Committee as well, is that we don’t do legislation in the committees anymore. It’s really, really a shame because the committee vetting process is actually a pretty good process. 

When people have an idea for legislation, the traditional way in which it was pursued is, first of all, you had to convince enough members of the committee that it was worth pursuing, including the chairman. If you could, then you’d have a hearing or more than one where you would have experts come in and give their critique or give their suggestions and just have a discussion about this idea. If it developed steam and you got some traction, you would then try to convince the chairman to have what we call a markup, which is the process of actually coming up with a version of the legislation. It’s called a markup because you could literally cross out a line and put in a different one and suggest that as an amendment and you have a vote on it. You would iterate your way to a product that was vetted, that was the work product of the whole committee, and that process is what you would typically go through before you’d put something on the Senate floor.

This is the classic, textbook, 101 way that you did legislation. Doesn’t happen anymore. We did have a markup of an important bill some years ago. It was 2155, it was mostly a deregulation bill. In my two years as ranking member, I don’t think we had a single legislative process like that. We had what we call markups, which are really the vote on whether or not to confirm nominees because, of course, President Biden came in and had a new slate and the Senate will go through that again now, of course, with President Trump. It’s one of the frustrations, the body’s not functioning well. 

What legislation does end up getting enacted, typically it is through what I think is a very bad process. It gets inserted into some giant must-pass bill that maybe funds the government at the end of the year or is the National Defense Authorization Act. It never goes through a proper vetting and consideration and debate and amendment. I’m griping here— 

Beckworth: No, that’s interesting.

Toomey: —but that’s a perspective. When I first got to the Senate, there was still a pretty regular process. It isn’t ancient history. I was in the Senate for 12 years. We used to have much more normal functioning. In recent years, it’s been less so. I hope that Republicans now, newly in control of the Senate, will restore some of that traditional function. It’s good for the country to have legislation work through that process.

Beckworth: If one wanted to change, let’s say, for example, the Federal Reserve Act, find ways to improve it, you wouldn’t necessarily go through the Banking Committee. You’d go to the majority leader. How would you push that?

Toomey: Yes, as a practical matter, you’d probably try, right?

Beckworth: Yes.

Toomey: I would think you would try to persuade the chairman to see—if you were serious about getting legislation enacted, the Senate has a 60-vote threshold. There are 53 Republican senators. You’re going to need at least seven Democrats on anything. If you just want to make a point and make an argument, then passage isn’t important and having broad buy-in is not so important. If you want to actually get something done, you’ve got to get some folks on the other side of the aisle, whichever side you happen to sit on, and persuade the leadership of the committee, ideally. That’s your preferred approach.

If you can’t do that, then you’ve got to go this other route where you get it slipped into a must-pass bill, typically, at year-end. There, the process is really terrible. What happens is, by convention that is usually observed, the chairman and ranking member of the committee of jurisdiction in the Senate and the House and the majority and minority leader in the Senate and the House form this de facto committee of eight or whatever that number is. They have veto. Every one of them has veto power. If you’ve got every one of them to agree on your bill, then you can get it in. If any one of them is going to fight you on it, then it’s almost certainly going to slip out.

Beckworth: I can imagine those individuals have so much political capital, and they’re thinking, “How do I want to spend it? Do I really want to spend it on the Federal Reserve Act, amending it, or do I want to spend it on some other more important bill?”

Toomey: As a practical matter, because the whole world comes to them on these must-pass bills—it’s not just the Banking Committee, it’s every committee—there are staffers who are going to make those decisions. The staff who is familiar and follows banking issues for the majority leader or the minority leader, whoever it might be, is going to wield their boss’s veto power in most cases. Yes, it’s not a good process. 

Beckworth: You mentioned 2155, so that is one bill that you passed and one that I think you’re proud of, right?

Toomey: Yes. Oh, yes.

Beckworth: Tell us about it.

Toomey: It’s a big bill. There are many provisions, but the overriding theme was to lighten the regulatory burden where it made sense on financial institutions. For instance, small banks, quite small like $5 billion in total asset banks, we thought we should increase the threshold, the size of these small banks, that would allow them to have an examination that occurred every 18 months instead of 12 months. This sounds like really nitpicky minutiae, right?

Beckworth: Yes.

Toomey: It matters to the people who have to comply with this regulation. One of the bigger things that we did in this particular piece of legislation was we raised the threshold for the large banks, the threshold for triggering the Systemically Important Financial Institution designation. You remember that?

Beckworth: Yes.

Toomey: The SIFI designation that came out of Dodd–Frank as it happens. It’s an extremely onerous set of regulations that are imposed on these giant banks. We just felt that $50 billion, was way too low a threshold; a $50 billion bank, it’s just not big enough to pose a systemic risk and it shouldn’t be subject to this onerous regulation. We raised that to $250 billion. Lots of other things, some consumer-oriented things, a lot of things for small financial institutions. It was constructive. It was good for capital formation. Good for the economy.

Beckworth: Yes. Later, we’ll come back to Fed master account issues. That’s an example of the laws that you got passed through the bigger bill process, which is interesting to see these two maybe extreme examples. Let’s talk about the committee a little bit more before we move on and just where we are today. In 2025, we have a new Trump administration, new Congress, and the zeitgeist has changed dramatically. The whole milieu, the world we live in, just a few years ago, it was almost like peak progressivism. 

You fought hard against this. You have several speeches, I have some here in front of me where you pushed against the politicization of banking, banks being pressured whether from regulators or themselves, maybe DEI people within the bank, to maybe cut off certain customers. In fact, just recently, there was a big ruckus about Choke Point 2.0 and debanking. I believe even President Trump says his family’s been debanked. I believe this is going to be an issue we’ll probably continue to look at. You were on this for many years. You were also on the Federal Reserve’s case, the accountability. In fact, you pushed a bill, Federal Reserve Transparency Act. You were on the master account issue.

Now, we look and we see things changing so dramatically. The Federal Reserve pulled out of this international climate group for central banks. The Federal Reserve just recently changed on its website its DEI link. I think it doesn’t show anything anymore. I imagine other federal agencies are also just changing quickly, right?

Toomey: Yes.

Beckworth: What a change. I’m just curious, from your perspective, as you see this unfolding, are you going, “Wow”?

Toomey: Yes. Well, I’m glad to see the Fed—and I would say they’re continuing on a path to focus on their knitting, right?

Beckworth: Yes.

Toomey: In my view, it’s a very bad idea to have unaccountable, unelected regulators, in some ways, especially financial regulators, making decisions about policy. The folks, mostly on the left, who have advocated this, the surprising thing to me is it’s so undemocratic, with a small “D.” Some have argued, for instance, and they had some effect, I think, with the Fed, that it’s a good idea to have the Fed allocate capital to preferred industries and away from disfavored industries. The disfavored industries might include fossil fuels.

As a society, we may decide that we’ve got a tough question to answer about whether or not and how quickly we want to transition to a lower carbon-intensity economy. Okay, that’s a fair debate to have. The way to have that debate is in the public with members of Congress who are accountable to the public making the ultimate policy decisions. If the Fed were to decide that, “We’re going to create a prohibitively expensive capital requirement on any bank that lends to oil and gas,” well, when gasoline prices go up, who do consumers hold accountable for that? There’s no accountability. That’s a terrible way, and the country shouldn’t be run that way.

I’m not suggesting that the Fed was ever actually in that business per se. When it starts to join these multinational organizations who loudly proclaim their goal to get carbon emissions down to X or Y or Z, it puts itself in a—by the way, some of the Europeans and other areas of the world, they openly advocate and celebrate the idea that they will use financial regulators to achieve these policy outcomes. I think it’s anathema to America’s form of government and to basic accountability. We had some knock-down, drag-out fights in the Senate over this.

Beckworth: Yes, the Federal Reserve said when it withdrew from the name of the organization is the Network of Central Banks and Supervisors for Greening the Financial System, or NGFS, they’re withdrawn because it has increasingly broadened its scope and has fallen outside the Fed’s statutory mandate. I think both of us would say, well, from the get-go, it falls outside the—

Toomey: Yes.

Beckworth: —statutory mandate.

Toomey: Exactly.

Beckworth: I said some things on this podcast I know were unpopular to some of my listeners. When I interviewed past guests, I was like, “Look, there are many risks to banking. A trade war with China, that’d be a risk to banking. Slowing down of population growth, productivity is slowed. All these things, warfare, there’s a million and one things. Why single out just this one risk?” The only answer can be because it’s politicized. We want to avoid that politicization of the Fed. It was really interesting to, again, see this big change take place. You were, again, on that case back when you were the ranking member.

Toomey: Yes, I think even before I became a ranking member.

Beckworth: Even before you were a ranking member. Again, just super fascinating to see the amount of change happening. Now, you also, at the committee, championed stablecoin legislation and were more friendly toward crypto. We see a big change happening there.

Toomey: Yes, so this is something I’m really excited about because I think it’s way too long, way overdue for Congress to pass sensible legislation in at least two categories, in my mind. One would be the framework for a regulatory regime around stablecoins. The second would be the framework for regulating the spot trading and custody of crypto more generally. I think those are sufficiently distinct that it probably makes sense to do separate bills. You could combine it. I pushed to do this, but I could not persuade my Democratic colleagues, at least most of them, to go down this road.

Some in the Senate, on the other side of the aisle, historically have been extremely hostile to crypto, the technology, the existence of this innovation. They were, I think, frankly concerned that legislation creating a regulatory regime would be seen as the government granting an imprimatur on the technology, which that’s a fair point, but I’m in favor of that. I think the technology is amazing. The ability to move value over the internet as easily as we move information, to do it instantaneously, for free, to anyone, without an intermediary, is powerful. I think there is a store of value use case for bitcoin that is very credible. It’s actually already been adopted by many people.

Technology, by its nature, you can’t put that genie back in the bottle. You shouldn’t want to, but you can’t. While we have, in the US, refused to pass legislation, we’ve instead had, in some cases, regulation by enforcement. The SEC, under Gary Gensler, famously refused to pass a rule laying out how and why a particular token is a security because remember, as you know, the SEC has no jurisdiction whatsoever over anything that’s not a security. Gary Gensler, the chairman, simply declared that virtually all crypto tokens are securities, with the exception of bitcoin. They just are.

If you’re familiar with securities law and you look at the historical tests, there’s a huge body of litigation that has addressed this question over what really constitutes a security. There’s a lot about many crypto projects that just don’t fit that description at all. Rather than address how and why some are and some aren’t and how one could—one as a trading platform for crypto tokens—how one would comply, they refused. They just filed a lawsuit against you and said, “You’re violating securities law.” Now, the biggest, most well-resourced firms in this space can fight back. They can go to court. Actually, they’re doing that, and they’re winning.

The smaller ones can’t. It had a chilling effect for years, I would argue. It sent a lot of very creative developers to other countries where they had jurisdictions where they did create regulatory certainty. For all these reasons, it’s long overdue. I’m very optimistic. We have a pro-crypto administration. Both houses of Congress have big majorities that are supportive of allowing this technology to thrive and putting regulatory guardrails on it. That’s exactly what we ought to do. I think that’s going to happen this year.

Beckworth: Yes, it’s exciting. I think what we want to see is let innovation do what it does best, find cheaper, more efficient ways, which on a related note, undermines the case for CBDCs, right?

Toomey: Totally, yes.

Beckworth: There’s many reasons why I was uncomfortable with CBDCs. One of them is if, in fact, the Fed did take over commercial banking effectively or it did take a lot of the business, you really removed the incentive for innovation on technology. I don’t think it was going to happen in any event. It looks like Jay Powell, many of the governors, were not excited about CBDCs, but this, I think, where we are today, definitely seals the deal in terms of the end of CBDCs.

Toomey: I totally agree. I think Chairman Powell, to his credit, fully recognized that there’s no legislative authority to do this. You can always get creative lawyers to come up with a rationalization. But something as profound as that, he totally understood there’s no way the Fed should be undertaking that without explicit congressional authorization. That sure wasn’t coming, and it’s still not coming. 

One of the main reasons, of course, is the transparency, really, of the blockchain. If there was a central bank digital currency that ran on a blockchain that the Federal Reserve developed, maintained, controlled, it would see every single financial transaction that used the central bank digital currency. Not only would it see it, but it would have the ability to control it. It could decide that, “I don’t really like some of David’s podcasts. Maybe his money shouldn’t work outside of Alexandria. We’ll see how he likes that.” 

Beckworth: No, no it is—

Toomey: This is the kind of thing that could happen. It’s terrific. Stablecoins obviate the need for a central bank digital currency. Stablecoins dramatically enhance the value, the prestige, the desirability of dollars in— 

Beckworth: Absolutely.

Toomey: —part of our international banking system. It’s all good. Tim Scott is the new chairman of the Senate Banking Committee. Terrific guy. Very bright, very thoughtful. He wants to get it right. I think he wants to do something here. We have an administration that, as I said, is going to be supportive. I’m optimistic.

Beckworth: I think stablecoins, at least for me, is the best case we have right now for using crypto and spreading dollar dominance. The more stablecoin use, the more demand for dollar-denominated assets, the better for the US. I’m very hopeful about that. I will put a plug in for my former colleague of Mercatus, Hester Peirce, who is SEC commissioner. She is leading a new committee that’s going to look at crypto and how the SEC should approach it. I’m excited for her work.

Toomey: She’s terrific. She’s so smart and so thoughtful. She is very much pro-market and pro-innovation. I’m very pleased that she’ll be doing that. The acting chairman is Mark Uyeda, who I’m very proud to say was the securities attorney on the Banking Committee on the minority side when I was the ranker.

Beckworth: Fantastic.

Toomey: He did fantastic work. He’s an excellent SEC commissioner, and he’s the acting chairman now.

Federal Reserve Master Accounts

Beckworth: Good news. Let’s segue into your work on the Federal Reserve. You’ve done a number of things there, including you had a bill that you proposed to reform the Fed. Maybe we’ll talk about that later. I want to start first on a topic that you were well known for and you really got your hands dirty, so to speak, and that’s the Fed master accounts. A lot of interesting stories there. I know, ultimately, one thing you did get out of all this was the law requiring the Fed to have a database. At least we can see who has it and who’s applied for it. Tell us your version of the story, what’s important takeaways from it, and where would you like to see it go going forward.

Toomey: I start with the point of view that this is a very, very valuable public asset, right?

Beckworth: Yes.

Toomey: Banks, almost universally, have master accounts because it’s very valuable to be able to deposit money with the Fed, to use the Fed’s rails. The power to grant or to withhold that is a huge power. There’s innumerable business models that just don’t work if you don’t have a master account, for instance. It came to my attention that we had this situation where Reserve Trust, it gets turned down, then it gets approved, then it gets withdrawn. 

Again, this is a public good. I started asking questions to the Kansas City Fed, the main Fed, about, “What’s your criteria? How did they fail to meet the criteria? Why did you reverse yourself? What were the circumstances?” The answer I was getting is, “It’s none of your business.” “Wait a minute. This is the Senate Banking Committee, and we have oversight responsibility of the Fed.” At one point, or probably more than one point, I think we sent letters with at least every Republican member of the committee asking for basic information. They just said, “You know what? Never mind. Too bad. We’re not going to give it to you.”

Where does that come from? How is that okay? How is it okay to have such a powerful regulator have zero accountability, even to the committee of jurisdiction in the United States Senate? They clearly thought they have no accountability whatsoever. I then asked, “Well, give me a list of everybody who has a master account. I’d like a list of who’s applied, and who’s got them, and who was turned down.” They said, “No, we’re not going to give you that.” “What do you mean you’re not going to give it? How can you not give the United States Senate that?” They absolutely refused. I had to do the last resort, which was to force it. We forced it by getting a provision into the National Defense Authorization Act, the year-end, must-pass bill, right?

Beckworth: Yes.

Toomey: Miraculously, we were able to persuade all of the great powers around the table that they should not block this, that this is a reasonable thing for the Congress of the United States to exercise its oversight responsibilities. We got it inserted. We gave them a tight deadline because we knew if you don’t have a deadline, don’t expect to ever see it. We got it. We got the list. There were some surprises on the list, as I recall. It was a little while ago now, but there were some institutions that raised eyebrows. The bigger point here, the bigger takeaway is that the Fed, in my view, should not be able to hide its regulatory activities behind this notion of Fed independence. People like to use that expression a lot.

I think when it comes to monetary policy, several of the manifestations they use make sense. I’m not in favor of the president determining monetary policy for a lot of reasons we could talk about. I see no justification for why secrecy should apply to how they are wielding huge powers in the regulatory realm. It’s an ongoing battle. I hope the Senate will continue pushing on this issue.

Beckworth: Going back to what we talked about earlier and the Fed doing things that are really beyond its statute, we mentioned climate, bank regulation is a big part of the story here, right? The Fed has both monetary policy and bank regulatory policy. It’s understandable, as you noted, that monetary policy, you want to do a hands-off, let the Fed do their thing. That’s why it’s been delegated to them. When it comes to bank regulation, every other bank regulator, there’s a lot of oversight. 

A former guest on the podcast, former central banker of the Bank of England, Paul Tucker, he has this book where he goes through the philosophy of central banking. He makes this point, which really resonated with me. He says, “You want to delegate powers to agencies upon which there’s great consensus.” Everyone, and most Americans would agree that price stability is something we should aim for, whether you’re left or right. Environmental issues, big divisions, right?

Toomey: Totally. Right.

Beckworth: There’s not a consensus. You should not delegate that. You should have that debated in Congress. The general point is regulatory issues, they have to be delegated at some level. If there’s contention, Congress should have the ability to check in and see what’s happening.

Toomey: Totally. By the way, a lot of times, Congress is quite guilty of not wanting to look too closely because it’s easy to avoid accountability that way. If the policy is popular, they can take credit for it. If the policy is unpopular, they can say, “Oh, that wasn’t me. That was those guys at the Fed.” 

Beckworth: Right.

Toomey: That shirking of responsibility has a bad outcome.

Accountability of the Fed

Beckworth: Pat, another issue you worked on regarding the Fed is getting them an independent IG, an actual inspector general that has the ability to report to Congress. The existing one now reports to the chair. His salary is determined by the chair. For an institution as powerful and as important, and I believe both you and Senator—was it Warren or Brown?—both were like, “Yes, let’s push this,” and it never got out of the committee. But it was interesting to see something like that go forward. Tell us about your motivation, your thinking there. Why have an independent IG at the Fed?

Toomey: I just think it’s an important part of transparency. If you don’t have real independence, you don’t have a very high level of confidence that you’re getting that completely objective analysis. We have independent IGs throughout the government, and for good reason. They often make very important discoveries, and we learn a lot from them. I just don’t think the Fed should be immune to that.

Beckworth: Maybe the next chair of the Banking Committee will take that to heart and push that through.

Toomey: It’d be a good item for the agenda.

Beckworth: Yes. You also proposed legislation on the Federal Reserve Accountability Act, and there’s a lot there. I don’t want to spend too much time on it. One of the issues that came up during your time, I believe, as ranking chair was the trading scandals at the Fed. Some of the officials had traded during the pandemic. At least on the surface, it looked bad. In fact, it was bad. What other motivations did you have in mind for more transparency, better governance at the Fed?

Toomey: The big one was my experience with finding it so difficult to get basic information from the Fed. Also, let’s be honest, the regional Fed system is archaic, right?

Beckworth: Yes.

Toomey: It is a remnant of the time when money was all physical specie and you had to have a bank reasonably close by that would literally distribute currency and coin, and be a place where deposits could be taken and that sort of thing. That’s not America today. It hasn’t been for a long time. The combination of modernization and having a better oversight, that was the main motivation.

Beckworth: Just briefly, for our listeners, you proposed reducing the number of regional banks, making them presidential appointments, limited terms. I think that’s a fair point because they do have a lot of power.

Toomey: Yes. The presidential appointment part of it—and they’d also be confirmed—is it goes back to accountability, right?

Beckworth: Yes.

Toomey: The presidents of the regional Feds are selected locally and there’s no way that voters can hold them accountable. And they have a lot of power and they exercise that power. I think there should be more accountability.

Monetary Policy

Beckworth: All right. Let’s segue into monetary policy itself. We’ve been talking more on the regulatory side of the Federal Reserve. You had the opportunity to work with Chair Powell. I guess also previous to that, you had Chair Yellen, Janet Yellen. One of the stories about Chair Powell is that he wore out the carpets in Capitol Hill. Now, we know there’s no carpets in Capitol Hill, but it’s a nice expression. He allegedly visited everybody all the time. People like you got lots of visits. Is that an important role for the chair? Do you think it helped?

Toomey: It can be. It’s true that Chairman Powell was very accessible to certainly senators on the Banking Committee. I imagine other senators as well. I assume some house members. He was responsive. He would come to the Hill and he would visit. I do think it’s helpful. You can have a candid conversation. You can talk about some of these issues that are important to me. We’ve been talking about some of them. We’re going to talk about monetary policy. Yes, I think that is constructive. 

It definitely was an asset for Chairman Powell and really the federal government when the COVID lockdowns shut down the economy. We’d never been through that experience. To have the government mandate that you close your business, literally. It was happening all over the country. It was completely unprecedented. Very dangerous. Potentially very destabilizing. We passed unprecedented legislation. It was good relationships with the administration and with folks at the Fed, including the chairman, that helped get a good outcome at that time. There’s a lot of Monday-morning quarterbacking we can do about it. The big picture, my view at the time, was if the government makes it illegal to work, then you got to take care of the people who can’t work.

Beckworth: Yes, completely.

Toomey: Anyway, we stood up some facilities. That was the part that I focused on, the financial facilities that were meant to be a backstop to the financial markets. The fear was that with this unprecedented series of developments, you could have market participants decide, “We’re out of here,” and just maybe you wouldn’t have a functioning commercial paper market. In which case, how does corporate America roll over its commercial paper, which is coming due tomorrow and the next day? Then what about the Treasury markets, the single most important financial market in the world by far? If that freezes up, what happens? All kinds of things.

There were all kinds of consequences. The theory was, and I subscribed to it, given the extremely dire nature of the circumstances, you stand up a huge facility where the Fed can be a buyer of last resort and have, for all practical purposes, almost unlimited resources to do it. That alone, we hoped, would give enough confidence to the market that the market would continue to function. In fact, it did work, I would argue. I think it did pretty much work. One of my biggest focuses at the time was to ensure that this really unbelievable authority to backstop every financial market in the country would end. The Fed doesn’t belong doing this as a routine matter, okay?

Beckworth: I remember this, yes.

Toomey: I was then, and I remain very critical of the fact that the Fed’s bond-buying program—well, I was critical of the bond-buying, period. The fact that they bought mortgage-backed securities, that’s a credit decision. That’s a capital allocation decision. There’s plenty of treasuries out there. Buy the treasuries if you think you need to be injecting cash and withdrawing these securities. I was never convinced that it was a good idea to pick a particular credit category. You could have picked auto loans, I suppose. You could pick commercial real estate finance. You could pick any number of things. The Fed doesn’t belong doing that because it distorts the cost of capital, creates an advantage in a certain place, and markets ought to allocate that.

Anyway, my big priority, actually, it was a big fight that I had eventually reached a compromise with Senator Schumer on the year-end bill, which was language to absolutely and definitively end this problem. By the way, this was not just a hypothetical paranoia on the part of Pat Toomey. The House had passed a bill, the Democrats were in control of the House, and they passed a bill that was going to require the Fed to expand its portfolio of purchases, the assets that it would purchase. It was a very dangerous place, and I wanted to shut it down. All of which is to say that the constructive working relationship with the governors of the Fed, we didn’t always agree, but we had a good working relationship.

Beckworth: For me, I think Jay Powell was the right man for the right time. Again, as you said, we can criticize certain decisions, we can Monday-morning quarterback, but if you think of who would have been able to navigate President Trump’s first term as the Fed chair, who would have been able to navigate Biden’s administration and COVID—again, we can critique certain decisions, but someone who is able to get through all of that, they had to have some political capital. I think visiting Capitol Hill is important.

In some ways, he reminds me of Alan Greenspan. Alan Greenspan was also very politically smart. The two chairs between them, they’re great economists, great academics, they weren’t probably as politically savvy as Powell. I think that goes a long way, and I would just think going forward, you want someone—again, disagree with some of their choices—but you want someone who knows how to navigate the political waters of Washington, DC.

Toomey: I think that’s right. Now, that said, I think the Fed made the biggest blunder in monetary policy in a couple of generations recently. I’m not sure that the Fed is going to do the deep dive. It ought to do the self-reflection. I’m sure there’s some of that, but I’m not sure it’s adequate. I think the Senate Banking Committee, I think the House Financial Services Committee should absolutely do this.

Beckworth: Tell us about that mistake. 

Toomey: Yes, so obviously there’s a wide range of opinions on this, but I think that’s exactly what we ought to be asking ourselves. How did we end up with the highest inflation in 40 years where CPI hit 9%? I think it did. We should ask questions like, well, we had for, what, a decade or so, negative real interest rates, zero nominal interest rates. Was that a contributing factor?

The fact that we had created a financial system where the price appreciation on almost any asset was almost guaranteed to be more than your cost of funds? You think maybe that causes a little bit of an appreciation in assets? We had this massive bond-buying that I alluded to earlier, where the Fed expanded its balance sheet, started systematically buying huge quantities of Treasuries and mortgage-backed securities, which is really the definition of monetizing debt. That’s really what they were doing.

By the way, they continued that bond-buying long after the economy had fully recovered. The huge downward draft when we closed the economy was mercifully met with an almost equal and opposite updraft.

Beckworth: Right, remarkable. 

Toomey: It was an amazing V-shaped recovery. Long after we had recovered the economic output of the pre-COVID era, they’re still out there buying bonds. Why are you doing that? I don’t think there was any good reason. There was, of course, a corresponding massive increase in the money supply.

I think the Fed’s official position is pretty much none of that contributed to inflation. Oh, that had nothing to do with inflation. Which, to me, is shocking that you could think that, but I think they do. They say, “Well, it was, problems with the supply chain. That’s what caused inflation.”

Well, I’m not sure that monetarists are 100% correct all the time. That’s the only thing to think about. I think the quantity of money does matter. I think Milton Friedman had some really good points, actually. I think we need to do a deep dive on this. Another aspect of this, when they announced—I forget the acronym now. I’m sure you know the acronym, whereby they would target—

Beckworth: FAIT?

Toomey: Yes, FAIT. The inflation rate would average 2%. It wouldn’t be the maximum. Well, that raises a lot of questions. For instance, okay, if you have a period where you’re below 2%, which we had for a while, how much above 2% is okay? For how long? You’re going to do this average over what period of time? None of this was answered.

Then a follow-up question that I had, which I wish had been answered, was, doesn’t this risk creating a very dangerous inflationary dynamic? Because since we had inflation below 2%, and you’re telling the world you’re going to tolerate inflation above 2%, you won’t tell us how much above, you won’t tell us for how long, but it’s going to go above, if we’re really in the beginnings of inflation running away, aren’t you announcing that you’re going to be sitting on your hands, for a while anyway, until you decide, well, now it’s just too high? Which is exactly what happened. That’s exactly what happened.

All of these things need to be better understood. Their models were wrong. By the way, their models were wrong not only in their failure to predict the inflation, but remember, they also thought that we would have to suffer through higher unemployment in order to get inflation back down. The old Phill  ips curve argument.

Beckworth: Most of us did.

Toomey: Yes, but not all of us thought that. In fact, inflation has come back almost all the way down.

Beckworth: I’m happy for it. For sure.

Toomey: Unemployment rate has barely moved. I would hope that Congress would do a deep dive on this. What is the underlying principle on these models? What do you think of monetarism? Because I think it’s dismissed out of hand in the building, generally. I think there has to be some accountability for the worst episode of inflation in 40 years.

Beckworth: Let me ask about that. You mentioned FAIT, which is Flexible Average Inflation Targeting. That framework was adopted in 2020. They had done a framework review. I think it’s a fair critique. Many academics would also agree with you that that was a framework designed to fight the last battle, the previous decade of low inflation when we were struggling to recover from the Great Recession. They were fighting the last war of sorts.

As soon as they pass that, ironically, we have the greatest inflation. There’s definitely room for improvement. In fact, this next week, we are recording this the week before the FOMC meeting when they’re going to begin the next review. They’re going to have another framework review. There’s a question as to what will become of FAIT. As a ranking member and as a committee member, when they were making this decision—so, I guess 2020, you would have been just a regular member on the committee—did they consult you about FAIT? Say, hey, we’re thinking of a change to our inflation target?

Toomey: That’s a fair question. I don’t remember being consulted on that.

Beckworth: That’s the impression I have. I’ve read some accounts that compare the 2020 decision to the 2012. 2012, they officially state we have a 2% inflation target. Before that, it was implicit. They made a big deal about that in 2012. They also consulted Congress extensively. Bernanke was very careful. “Hey, we’re going to make this official. Do we have your blessing?” Some have said—and again, I’m just reading others’ accounts—that they didn’t do as much checking in with their—

Toomey: I don’t remember it.

Beckworth: —overseers. Okay.

Toomey: I was as engaged on monetary policy as anybody in the Senate. Not sure there’s a lot there.

Beckworth: That is important. Whether you agree with FAIT or not, to get the blessing of the committees that oversee you. It will be interesting to see what they do going forward.

Toomey: The other part of this debate that Congress should force, I think, is whether monetary policy should be guided by some kind of rule. The Taylor rule is an interesting approach. We should have a debate about that. We could have the dollar tied to a basket of commodities. We could have a price rule. We could have different rules. The Fed is extremely resistant to that because it diminishes their flexibility. After what we have been through, we ought to be having a debate on this.

If they want to say that the inflation had nothing to do with the Fed’s exercise of monetary policy, okay, well then, good luck. Defend that. If you asked former President Biden whether all of the spending and the monetization of that spending contributed in any way, I think he would adamantly say absolutely not. I think he’s totally wrong.

Beckworth: Yes. You don’t add $5 trillion to the economy and not expect some inflation to emerge to it. I will mention, since you’re here at Mercatus and we’re in the studios, we are both drinking from a nominal GDP targeting mug. I’ll just mention to you, Senator Toomey, and listeners probably get sick of me mentioning this, but this can be viewed as a velocity-adjusted money supply target or total demand.

Toomey: Sure.

Beckworth: It’s another rule one could adopt. I won’t dwell on that too much more.

We’ve talked about the inflation surge. We’ve talked about Fed governance issues. What about its balance sheet? QE, large-scale asset purchase. You mentioned it went too long. I think most observers would agree that today they could have cut that a lot sooner. In general, the use of its balance sheet as a tool. Then the argument generally given is when you hit the zero lower bound, you can’t cut rates anymore. You’ve got to do something. Let’s resort to balance sheet policies. What are your thoughts on that?

Toomey: My intuition on it is that it ought to be used in an emergency situation. That’s really the only time. That’s not what happened. It was standard operating procedure for years. I don’t remember how many years, but you might know. It was quite a number of years that they had QE. Certainly, if they do engage in it, I think it’s very hard to justify using anything other than Treasuries.

Beckworth: Okay. Treasury-only policies.

Toomey: That would be my suggestion.

Debts, Deficits, and Fiscal Policy

Beckworth: All right. Now, in the time we have left, let’s segue out of monetary policy to another issue that’s near and dear to your heart, and that’s the debt, deficits, fiscal policy. In fact, you were in Congress late ’90s, and you were a part of the efforts there. You were known as a fiscal expert in Congress. You also were on this Joint Select Committee on Deficit Reduction in 2011, I believe. The fiscal cliff. All these issues. You were there in those difficult years. It’s great to have a veteran of those experiences.

What’s striking is that today we have a national debt, the gross amount is $36 trillion, the marketable. The one that actually circulates in the public is $28 trillion. Still, it’s close to 100% of GDP. Big difference from when you started, which is a big change. What’s striking is we go back to when you were first there in the late ’90s, we were running budget surpluses. The Federal Reserve was actually worried about, well, what are we going to have on the asset side of our balance sheet? There’s no Treasuries.

I learned recently one of the interesting things they were talking about was a program to buy more bank loans. If you can’t buy Treasuries, what are you going to have as an asset on your balance sheet? They were worried about not enough debt. Now we’re at the other side of that worry, where we worry about too much debt. You’ve dealt with this issue. You’ve seen it over a significant period of time. What do you think? Can we actually address this? I ask this because my understanding is we really won’t meaningfully address the trajectory unless we talk about entitlement reform.

Toomey: Totally. If you step back, I spent a lot of time, quite fruitlessly, arguing for putting us on what I think would be a sustainable fiscal path, which is, in my view, the definition of that is the government grows at a rate that is no greater than nominal GDP. The government’s share of the economy doesn’t keep growing.

I was part of the super committee in 2011, which was really Mitch McConnell’s idea, negotiated with Barack Obama to create a bicameral, bipartisan, members-only group that would have unlimited jurisdiction to try to make significant progress toward our long-term fiscal outlook. Our Democratic colleagues came and said, “Okay, we’ll be part of that. We’ve got a lot of taxes to raise, and that’s how we’re going to do it.” Republicans said, “Well, we actually have plenty of tax revenue. It’s growth in spending is the problem. The one that is growing way too fast and it’s too big is the big entitlement programs. We need to just curb the rate of growth.”

We don’t have to kick grandma off Medicare. We don’t have to throw anybody off a cliff. Nobody has to actually have a cut in their benefits. You don’t need to do any of that. What you need to do is, at some reasonably foreseeable date in the future, bend the growth curve so that the rate of growth slows down to something slightly less than nominal GDP is likely to be.

There’s lots of dials you can turn to get there, but you’ve got to do it on some combination. It really should do it on all three of the big three programs: Medicaid, Medicare, and Social Security. Nobody in retirement, nobody close to retirement would be affected at all. The idea that we’re telling a 38-year-old person that the Social Security system is going to be exactly what the current statute is promising you, that’s a lie. We really shouldn’t tell lies. We should deal with this.

My theory about what it’s going to take to—because there’s a tremendous amount of work has been done that has provided all kinds of ways to get there. On Social Security, it’s really not that complicated at all. Medicare is a little more challenging in some ways. It’s well understood how to do it. The question is, where’s the political will? My theory has been it takes three things to have the political ability to do something to put us on a sustainable path: takes bipartisan government, because neither party is likely to take this on and risk the demonization from the other party—

Beckworth: Interesting.

Toomey: —because it’s just too easy.

Every time I ran for office, I was accused of wanting to throw grammy off Social Security. I’m coming after her check. It was absurd. It was dishonest. It’s in every campaign. Nobody wants to volunteer to take that incoming. The way you avoid that is if it’s bipartisan, you’ve got the fact that both parties agreed on it. Number one, I think you need divided government. 

Number two, you need presidential leadership. Only the president can bring his party to deal with this, which Barack Obama had the opportunity to do that and chose not to. Nobody’s chosen to do it. That’s a necessary component. 

The third thing is there needs to be pressure from the electorate. Members of Congress have to go home and hear from people. We’ve actually seen some evidence that is happening. Go back to the episode when Kevin McCarthy had struggled to win election as speaker. I’m not supporting the tactics that were used. I do think that some of the anger, some of the issues, some of the rules changes that people were demanding were because they were hearing from constituents about having to do something about the overspending and the deficits and the debt. That tells me that people are hearing a little bit.

By the way, Ron Johnson, the senator from Wisconsin, has a great idea that would be terrific for Congress to seriously consider, which is he’s looked at the explosion in spending during and immediately after the COVID, where spending went from 21% of GDP to 25% of GDP. The problem is now it’s locked into 25%. COVID’s long gone. Economy is actually pretty strong. 

Beckworth: Yeah, a ratcheting effect.

It’s exactly right. It’s a one-way ratchet. That’s been the problem. Ron has said, let’s go back to immediately pre-COVID what we were spending, and then adjust for population growth and inflation, and establish that as our spending level. That would be a lot lower than what we’re currently spending. It seems to me like an eminently reasonable step to take. That could create an overall cap. Then you’d make some reforms underneath that with respect to the specific program so that you stayed within that cap. At least we’re seeing some attention, some discussion, some ideas.

We’re a long way from getting something done. We don’t have divided government now. I don’t think this is a priority of President Trump. I don’t know how long we can go on. I don’t think anybody really does. There’s never been a country like the United States before. There’s never been this particular set of circumstances. We are blessed by being the most attractive destination for capital by far for a lot of good reasons: our respect for the rule of law, democratic society with a market economy, and the biggest and strongest economy in the world.

There’s lots of reasons, I think, that the world is willing to finance the huge deficits that we’re running. As debt service becomes an increasing percentage of our budget—pretty hard to get people’s attention, by the way, that we really needed to do something about our debt when the cost of servicing the debt was zero, which it pretty much was. It’s not zero anymore. It’s now about the same as Medicare. It’s a huge percentage of the total expenditure. I think this is going to get increasing attention. I hope that we have those circumstances. Because if we don’t, then the market will force it at some point. That usually is pretty ugly.

Beckworth: Yes, we want to avoid the ugly. You’re right, when rates were low—I think, to some extent, some of this was dynamics around the world, aging of the world. I believe there were some funds flowing in from abroad. Regardless of the cause, when you have low rates, you simply don’t face the tradeoffs. You kick the can down the road.

Toomey: Right, like money’s free.

Beckworth: Yes. Now let me ask you one final question before we wrap up the show. We’ve talked about monetary policy. We’ve talked about this fiscal policy. You’re also a financial policy expert. You’ve seen it all. What do you think about debt ceilings? Because yes, we want to curb the trajectory of debt to GDP. We don’t want to jeopardize the Treasury as this standard for the world. What do you think about the debt ceiling?

Toomey: Yes, so I think we absolutely should not abolish the debt ceiling, or suspend it indefinitely, or do any of those things, for a lot of reasons. One of which is every budget agreement deal for decades, going back to Reagan and George H. W. Bush, all along the way, Bill Clinton, those deals were precipitated during a debt ceiling fight. It’s an ugly vote that nobody wants to cast. That puts a lot of pressure on the system, and it can be a forcing action.

Without that, I think our chances of getting some kind of spending discipline goes down. It’s already low, but it gets lower if we don’t have that second point I would make. It is completely false to think that there’s any risk that if we went past the debt ceiling deadline, we’re going to default on Treasury payments. There’s zero chance that that would happen, for the simple reason that there is way more than enough ongoing, incoming tax revenue to pay our debt service.

Any treasury secretary and president would certainly prioritize that, because they would have to willfully cause a default on our Treasury securities, which would be such madness that I don’t think they would do it. I have challenged Treasury secretaries who will go unnamed, who have privately, when I’ve made this point, and I’ve said, “You’re not going to miss a payment on a Treasury obligation,” in private, the answer is, “Well, but we might have problems paying vendors on Medicare.” Oh, yes, totally. I concede that point. You’re not going to have that kind of crisis that would happen from defaulting on Treasuries. 

By the way, last point, there’s another mischaracterization that I object to, which is this idea that raising the debt ceiling only authorizes the borrowing for spending that’s already been committed to. That’s why it’s hypocritical and it’s ridiculous. But wait a minute, raising the debt ceiling allows you to borrow into the future. It allows you to go to the market next month and sometimes next year. It increases the amount of debt you can take on.

We haven’t decided how much spending we’re going to do next year. We have an appropriation process for that. Some of our spending has been obligated through the form of the entitlement programs, for instance, and some multiyear programs, but a whole lot of it has not. That’s the annual appropriations process. It is the case that increasing the debt ceiling allows for future spending, as well as spending that’s already been committed to. For all of those reasons, I want—

Beckworth: You want to keep it?

Toomey: Yes.

Beckworth: You say it’s a very useful mechanism for imposing discipline because we don’t have much else.

Toomey: Yes, if I characterize it that way, that may not be the best way because it’s not a great track record. At least it is a mechanism. At least it does put some pressure on the system. In the absence of that, I think it’s even harder to get any kind of fiscal discipline achieved.

Beckworth: All right. With that, our time is up. Our guest today has been Senator Pat Toomey. Thank you so much for joining us on the program. 

Toomey: Thanks for having me, David.

Beckworth: Macro Musings is produced by the Mercatus Center at George Mason University. Dive deeper into our research at mercatus.org/monetary policy. You can subscribe to the show on Apple Podcasts, Spotify, or your favorite podcast app. If you like this podcast, please consider giving us a rating and leaving a review. This helps other thoughtful people like you find the show. Find me on Twitter @David Beckworth and follow the show @Macro_Musings.