The remarkable ability of the Federal Reserve to coast above the turbulence of US politics has been tested lately. The central bank has been forced to deal with a financial crisis at least partly of its own making. It has rightly come in for some criticism; it has had to explain itself. Even so, the Fed and its policies are hardly front and centre in the debate between the presidential candidates.

Most voters say that they regard the economy and its troubles as the single most important issue facing the country. They want to hear what Senator Barack Obama and Senator John McCain propose to do about it but the Fed – where the real economic power resides – is mostly allowed to get on with the job unmolested.

I wonder if this will continue to be true. When a central bank has an uncomplicated recession to deal with, it can cut interest rates. When it faces a clear-cut case of inflation, it can raise them. The worst nightmare of any central banker – especially one with a tradition of political independence to defend – is stagflation, when raising interest rates to curb inflation will provoke a recession or deepen one that has already begun. It is a problem that the US has not had to confront for 30 years. In 2008, an election year, the conditions are falling into place.

Read on...