The fraught Fed-chairman choice

By Felix Salmon
October 23, 2012
Binyamin Appelbaum, prescient as ever, has delivered this morning an analysis of what the Fed might look like post-Bernanke, and how that affects things even today.

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Last month, Nouriel Roubini diagnosed a worrying and easy-to-miss phenomenon. When the global economy looked as if it was getting better, markets rose. And when the global economy looked as if it was getting worse, markets rose — on the entirely reasonable grounds that at any sign of weakness, Ben Bernanke and Mario Draghi would drop enormous amounts of money from the various helicopters at their control.

So it’s good news that we’re being reminded today that stocks can go down as well as up. We’ve had a worrying drop in volatility of late — the kind of thing which breeds complacency. Stock-market moves like today’s happen pretty much at random: almost by definition, they tend to come along when they’re least expected. And there’s no particular reason why we’re seeing a fall today.

Still, now’s as good a time as ever to revisit the idea of what the central bank will do — especially since Binyamin Appelbaum, prescient as ever, has delivered this morning an analysis of what the Fed might look like post-Bernanke, and how that affects things even today.

The term of the current chairman, Ben S. Bernanke, runs through early 2014. But the impact could be immediate as investors revise their assumptions about the future.

Appelbaum quotes former Fed governor Laurence Meyer as saying that Bernanke’s replacement is going to result in a more hawkish Fed. That’s probably a reasonable assumption, and it becomes something of a certainty if Mitt Romney is elected president.* If Obama is re-elected, things are less clear: Larry Summers, for one, is more of a dove than Bernanke, who seems to be on his last term, and would be more willing to step in to stimulate the economy at times when Congress has hamstrung the Treasury in terms of fiscal policy.

But still, the election is close, and there’s a significant probability that Romney will win. So it’s worth asking: what happens then? Romney is on the record that he would choose a chairman constitutionally averse to punchbowls. But what would that mean, in practice? According to Appelbaum, there are basically three names on Romney’s list: Greg Mankiw, Glenn Hubbard, and John Taylor.

Bernanke is a consensus-builder: he brought his skills as chair of Princeton’s economics department to the FOMC. I suspect that Mankiw would behave similarly, helping to steer the committee rather than trying to lead it from the front. The result would probably be a mildly more hawkish Fed overall, but nothing dramatic.

Appelbaum implies that Hubbard would be the same: he’s been very complimentary about Bernanke, after all. But David Segal’s big Hubbard profile doesn’t really portray a consensus-builder: neither Hubbard’s colleagues nor the president of Columbia seem particularly enamored with him. And he clearly has a temper. Hubbard, then, might find it harder to flatter and coax the various voting members of the FOMC into going where he wants to go, and to garner for himself the “considerable deference” that the chairman historically enjoys.

But the most interesting name on the list is Taylor. He’s a respected economist, with many years of Washington experience, but he’s not a typical central banker, by a long shot. He’s very outspoken, on both fiscal and monetary policy, and tends to align himself with Republican rhetoric more than with technocratic consensus. And he’s always crystal-clear about what he means. Greenspan, famously, was the chairman who told a Senate committee that “if I seem unduly clear to you, you must have misunderstood what I said”; you’d never find Taylor talking like that.

Taylor would unabashedly try to lead the FOMC into a world of higher interest rates — but the FOMC doesn’t turn on a dime, and the appointment of Taylor could set up one of the biggest cleavages ever between the open market committee and its chairman. There’s a very good chance that Taylor would find himself in the minority on a succession of key votes — and it’s hard to see how a Fed chairman can be effective if he regularly finds himself in the minority.

The point here is that the Fed board isn’t a bunch of muppets, rubber-stamping whatever the chairman wants. It might have seemed that way, at some points during the Greenspan years, but the fact is that Greenspan was revered by both Democrats and Republicans, and by both hawks and doves. What’s more, it’s pretty easy to build a consensus around low interest rates when inflation is low. Taylor, by contrast, would be trying to build a consensus around higher interest rates when inflation is low — and that’s much more difficult.

It’s impossible to predict what the outcome would be. Maybe Taylor’s tenure would prove short-lived; maybe he would be forced to moderate his views; maybe there would be a real crisis at the Fed. Conceivably, he might even somehow manage to herd the Fed’s cats and bring them round to his way of thinking. But in a world where a standard right-wing talking point is to complain about “uncertainty”, a John Taylor Fed would ratchet uncertainty about monetary policy up to unprecedented levels. Taylor and Romney might agree entirely on the monetary policy they want. But there could be enormous unintended consequences if they’re too aggressive in trying to push it through.

*Update: Appelbaum emails to clarify that Meyer was only talking about potential Romney appointees. Meyer’s thoughts on the subject can be found here.

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