{"id":114847,"date":"2017-10-16T07:13:18","date_gmt":"2017-10-16T11:13:18","guid":{"rendered":"http:\/\/countingpips.com\/?p=114847"},"modified":"2018-06-01T15:55:35","modified_gmt":"2018-06-01T15:55:35","slug":"who-will-be-the-next-fed-chief-and-why-it-matters","status":"publish","type":"post","link":"https:\/\/www.investmacro.com\/forex\/2017\/10\/who-will-be-the-next-fed-chief-and-why-it-matters\/","title":{"rendered":"Who Will Be the Next Fed Chief – And Why It Matters"},"content":{"rendered":"
October 16, 2017<\/div>
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By Dan Steinbock<\/strong><\/p>\n

Janet Yellen’s term is ending at the Federal Reserve. With new appointments, President Trump can indirectly shape US monetary policy for years to come – for better or worse. \u00a0<\/strong><\/p>\n

Serving as the \u201cepitome of calm,\u201d Fed chief Ben Bernanke responded to the global financial crisis by cutting the federal funds rate to zero and initiating rounds of quantitative easing (QE) soon thereafter.<\/p>\n

When Janet Yellen replaced Bernanke in 2014, U.S. economy had begun the exit from zero-interest-policy-rates (ZIRP) but not balance sheet normalization.<\/p>\n

As Yellen\u2019s term will end on February 2018, President Trump will soon select the next Fed chief and several new members of the Fed Board. Consequently, Trump will indirectly shape U.S. monetary policies for years to come.<\/p>\n

Not surprisingly, Trump has been assisted by Vice President Mike Pence, who has met with outside advisers \u2013 including Heritage Foundation economist Steve Moore, conservative economist Larry Kudlow and former President Ronald Reagan economic adviser Art Laffer \u2013 to assess the criteria for the next Fed leader.<\/p>

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Trump\u2019s current shortlist features half a dozen viable candidates. In line with his \u201cAmerica First\u201d approach, Trump is likely to ignore the international implications of the next Fed chief. Nor has he any interest in the Phillips curve that has influenced Yellen\u2019s monetary stance.<\/p>\n

Instead, Trump is likely to choose a candidate that will not prove too independent and who will prioritize Main Street, not Wall Street \u2013 and one that will support his proposed fiscal expansion.<\/p>\n

Monetary hawks<\/strong><\/p>\n

The Fed has a dual mandate to maintain stable prices and full employment. Monetary \u201chawks\u201d tend to stress prices at the expense of jobs, whereas \u201cdoves\u201d tend to focus on jobs at the expense of prices.<\/p>\n

Both Yellen and Bernanke are academic experts of the Great Depression. As a Keynesian economist and monetary dove, Yellen has been cautious with the pace of normalization. The Fed shortlist features several Wall Street insiders who have been seen as frontrunners. Such assessments underestimate Trump\u2019s suspicions about Wall Street.<\/p>\n

Kevin Warsh is a \u201chard money hawk\u201d with close ties to Wall Street. Married with the $2 billion heiress Jane Lauder, his father-in-law is Ronald Lauder, a longtime friend of Trump. After serving as Morgan Stanley\u2019s M&A executive, Warsh was President Bush\u2019s director of the National Economic Council. At just 35 years old, he became the youngest appointment in the Fed.<\/p>\n

Like Greenspan, Warsh is an ultimate free-market advocate. In 2007, less than a year before the rescue of Bear Stearns, he argued that financial innovation made the system safer. During and after the 2008 crisis, Warsh served as a governor of the Fed and its primary liaison to Wall Street. As US economy fell into deflation, he kept predicting that inflation would rise.<\/p>\n

More recently, Trump met Stanford\u2019s John B. Taylor, an accomplished academic of monetary economics. Taylor believes that the global crisis was caused by flawed macroeconomic policies in the U.S. and elsewhere. Under Alan Greenspan, the Fed created “monetary excesses.” Interest rates were kept too low for too long, which led to the housing boom.<\/p>\n

Unlike Bernanke and Yellen, Taylor has long cautioned the Fed should move away from quantitative easing measures and opt for a more stable monetary policy. If Warsh is a monetary hawk, Taylor is a monetary conservative.<\/p>\n

Gary Cohn is Trump\u2019s Director of the National Economic Council and his chief economic advisor. Unlike Warsh and Powell, Cohn is a registered Democrat. As former president and COO of Goldman Sachs, he is considered aggressive and arrogant. But unlike his rivals, he supports reinstating the Glass-Steagall legislation, which would separate commercial and investment banking.<\/p>\n

Monetary doves<\/strong><\/p>\n

After law school, Fed governor Jerome Powell worked as an associate for an investment bank and private equity giant Carlyle Group. He served as an assistant secretary and undersecretary of the Treasury under President George H. W. Bush.<\/p>\n

Unlike his rivals, Powell is not a PhD-trained economist, but his grasp of monetary economics is highly regarded. He has solid Republican credentials and is seen to represent institutional continuity. He is believed to be Treasury Secretary Steven Mnuchin\u2019s preferred candidate and Trump\u2019s current favorite. Unlike Warsh or Taylor, Powell believes in a more dovish monetary stance.<\/p>\n

Trump could also opt for the incumbent Fed chief Janet Yellen. While in the past he has criticized some of Yellen\u2019s actions and her Democratic legacies, he has also announced that he is a \u201clow interest rate person\u201d like Yellen.<\/p>\n

Yellen continues to believe in the modern Phillips curve, which sees an inverse relationship between unemployment and inflation. Historically, a short-run tradeoff between unemployment and inflation reflected the postwar Keynesian era when rates climbed from 2% in the 1950s peaking at 20% in early 80s. In the past three decades, rates have shrunk to zero, however.<\/p>\n

In light of the Phillips curve, decreased unemployment should go hand in hand with higher rates of inflation. Since unemployment rate is only 4.2%; that should translate to rising inflation. Yet, that has not been the case. Job growth is no longer accompanied with wage growth.<\/p>\n

Fiscal expansion vs Fed\u2019s normalization<\/strong><\/p>\n

In his Crippled America (2015), Trump argued that \u201cour airports, bridges, water tunnels, power grids, rail systems; our nation’s entire infrastructure is crumbling, and we aren’t doing anything about it.” As a result, fiscal expansion \u2013 a $1 trillion dollar infrastructure plan \u2013 is a central tenet of the Trump agenda.<\/p>\n

To raise capital, Trump has hoped to create an infrastructure fund supported by government bonds, similar to \u201cBuild America Bonds.\u201d<\/p>\n

When Trump first developed his infrastructure plan, interest rates were close to zero. But as the Fed is normalizing – about to hike up the rates and exiting from quantitative easing \u2013 the plan will be a lot more expensive to execute.<\/p>\n

“If we raise interest rates and if the dollar starts getting too strong, we’re going to have some major problems,\u201d Trump warned already in summer 2016. That is now the reality. He can no longer rely on the Fed to ease and thus to monetize the debt issuance. Conversely, aggressive infrastructure modernization could slow rate increases, or keep them lower.<\/p>\n

Moreover, the Fed\u2019s rate hikes tend to strengthen the dollar, while Trump\u2019s debt tsunami would weaken it. Despite the rhetoric of normalization and strong dollar, Trump needs low rates and weak dollar, while the Fed is raising rates and boosting the dollar.<\/p>\n

The role of equities and bond yields<\/strong><\/p>\n

Trump cannot mitigate the realities of normalization, but he can slow its pace by selecting a monetary dove. In this view, neither Warsh nor Taylor will do. The former would make Trump\u2019s fiscal expansion prohibitively costly; the latter\u2019s penchant for conservative stability would undermine infrastructure debt-taking.<\/p>\n

That leaves Cohn, Powell and Yellen. However, Cohn and Yellen are Democrats, Powell is not.<\/p>\n

After a September report that Trump had met with Warsh, stocks fell slightly before recovering, while Treasury bonds saw a significant sell-off and yields rose. It was foretaste of the kind of yield pricing that would undermine Trump\u2019s fiscal expansion.<\/p>\n

From the White House\u2019s standpoint, a monetary hawk would hurt equities while boosting bond yields. In this view, the appointment of Powell \u2013 or even Yellen \u2013 would mean continuity, support equities while keeping bond yields low (Figure).<\/p>\n

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That would be in line with Trump\u2019s fiscal plans.<\/p>\n

About the Author:<\/strong><\/p>\n

Dr Dan Steinbock is the founder of Difference Group and has served as research director at the India, China and America Institute (USA) and visiting fellow at the Shanghai Institutes for International Studies (China) and the EU Center (Singapore). For more, see https:\/\/www.differencegroup.net\/\u00a0<\/a><\/p>\n

The original commentary was published by The World Financial Review on October 16, 2017<\/p>\n

 <\/p>\n","protected":false},"excerpt":{"rendered":"

By Dan Steinbock Janet Yellen’s term is ending at the Federal Reserve. With new appointments, President Trump can indirectly shape US monetary policy for years to come – for better or worse. \u00a0 Serving as the \u201cepitome of calm,\u201d Fed chief Ben Bernanke responded to the global financial crisis by cutting the federal funds rate […]<\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[],"tags":[],"class_list":["post-114847","post","type-post","status-publish","format-standard","hentry","no-post-thumbnail"],"_links":{"self":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/posts\/114847","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/comments?post=114847"}],"version-history":[{"count":1,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/posts\/114847\/revisions"}],"predecessor-version":[{"id":114849,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/posts\/114847\/revisions\/114849"}],"wp:attachment":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/media?parent=114847"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/categories?post=114847"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/tags?post=114847"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}