Assessing the Structural Impact of the Powell Investigation on U.S. Monetary Policy and Credit

The Federal Reserve's independence is facing its most direct political assault in decades. In a move widely seen as unprecedented, federal prosecutors have opened a criminal investigation into Chair Jerome Powell. The probe centers on his Senate testimony about the $2.5 billion renovation of the Fed's Washington headquarters. Yet Powell and analysts see it for what it is: a pretext. The investigation is the latest escalation in a months-long campaign by President Donald Trump to pressure the central bank into cutting interest rates, a struggle Powell has consistently resisted.

The probe's timing and oversight underscore its political nature. It was approved last November by Jeanine Pirro, a longtime Trump ally who now runs the U.S. Attorney's Office for the District of Columbia. This office is the same one that has been under scrutiny for its handling of other politically sensitive matters. Powell has called the investigation "unprecedented" and stated he believes it was opened because he drew the president's ire over refusing to lower rates. The threat of criminal charges, he argues, is a direct consequence of the Fed setting policy based on economic data, not political preference.

This attack creates a clear structural risk premium for financial markets. The core function of the Fed-to set interest rates independently to manage inflation and growth-is now in question. As Powell warned, the probe raises the fundamental question of whether monetary policy will be directed by "political pressure or intimidation". The credibility of the Department of Justice itself is now part of that uncertainty. This isn't just about one renovation; it's about the precedent of using the justice system to retaliate against officials who defy the executive branch.

The political calculus is now explicit. Trump has already decided on Powell's replacement, with top economic adviser Kevin Hassett emerging as a front-runner. With Powell's chairmanship ending in May, the administration is moving swiftly to install a successor who may be more aligned with its policy preferences. This setup introduces a profound period of transition risk, where the central bank's perceived independence is directly tied to the outcome of a political appointment process. For markets, the investigation is a stark reminder that the structural pillar of monetary policy is no longer immune to the turbulence of partisan conflict.

The Credit and Inflation Mechanism: Quantifying the Risk Premium

The erosion of central bank credibility doesn't just linger in headlines; it begins to show up in the numbers. SEB analysts argue that the investigation into Chair Powell directly increases risk premiums across financial markets. This is the structural cost of uncertainty. When confidence in the Fed's independence wanes, investors demand a higher return to hold U.S. assets, which can dent the dollar and likely put upward pressure on longer-dated Treasury yields. The mechanism is straightforward: a loss of confidence in the Fed's ability to set policy based on economic conditions, not political pressure, introduces a new and persistent risk factor.

Market volatility is already evident. The 20-year Treasury ETF (TLT) has shown a clear, if mixed, signal. It posted a 5-day gain of 1.03%, reflecting a flight to longer-duration bonds as a hedge against the perceived policy uncertainty. Yet over the longer 20-day horizon, the fund has seen a decline of 0.43%. This choppiness captures the tension between a short-term safe-haven bid and a longer-term reassessment of the U.S. credit framework. The volatility metrics underscore the instability, with the ETF's intraday volatility at 1.01% and a turnover rate of 10.74% indicating active, nervous trading.

This risk premium is distinct from cyclical inflation concerns. It concerns the durability of the policy framework itself. The investigation raises longer-term questions over inflation and potentially the creditworthiness of the U.S., as SEB noted. The market is pricing in a new variable: the possibility that future monetary policy may be less predictable and more susceptible to political interference. For now, the impact is measured in yield curves and ETF flows. But the structural risk is clear. A central bank whose independence is legally and politically contested is a central bank whose policy is harder to forecast, and that uncertainty is the bedrock of a higher risk premium.

Forward Scenarios: Policy, Leadership, and Market Implications

The path forward is defined by a high-stakes political appointment and an investigation that is unlikely to yield a clear, neutral verdict. The key catalyst is the imminent selection of Powell's successor. President Trump has already decided on his replacement, with top economic adviser Kevin Hassett emerging as a front-runner. The administration is moving swiftly to install a new chair before Powell's term ends in May. This timeline turns the appointment into the central event, setting the tone for the Fed's future independence.

The investigation's outcome is highly politicized and serves as a backdrop to this transition. A resolution favoring the administration-whether through a dismissal of charges or a settlement-would signal a permanent shift toward political control of monetary policy. It would validate the use of the justice system as a tool to pressure central bank officials, fundamentally altering the risk-free rate by embedding a new, higher political risk premium. Conversely, a resolution that clears Powell or finds no wrongdoing would be a significant political setback for the administration, but it would not erase the precedent of the probe itself. The credibility of the Department of Justice is now inextricably linked to this episode.

For financial markets, the watchpoint is clear. The behavior of long-term Treasury yields and the U.S. dollar will reflect the embedded risk premium. SEB analysts note the investigation increases risk premiums, denting the dollar and likely putting upward pressure on longer-dated Treasury yields. This dynamic will persist regardless of the investigation's legal conclusion, as the structural question of Fed independence remains unsettled. The market's assessment of the new chair's temperament and the political environment will drive these prices.

The bottom line is one of prolonged uncertainty. The immediate catalyst is the successor appointment, which will be a political statement. The longer-term consequence is a recalibrated risk premium that could linger for years, affecting the cost of capital and the stability of the dollar. The structural pillar of U.S. monetary policy has been contested; its future value will be determined not by economic data, but by the outcome of a political process.