Fed: Getting close to next Chairperson – Deutsche Bank

Alan Ruskin, Macro Strategist at Deutsche Bank, notes that on Monday, President Trump said that he is very close to a decision on the next Fed Chairperson and given the President’s comments last Friday mentioning Powell, Taylor and Yellen by name, the race appears to have narrowed to three favored candidates.

Key Quotes

“It is very important to note that the market reaction will vary based on: 

i) What is priced in at the time of the announcement.  For now, PredictIt suggests Powell is the clear favourite which will restrain the reaction were he chosen.   Nonetheless the odds on Taylor are sufficiently high, that there would be some “it’s not Taylor impact” if Powell or Yellen is chosen as the next Fed Chair. The sharpest reaction would be if Taylor is chosen, but please see iv) below for why the most significant impact of a Taylor selection would be closer to the next cyclical downturn.     

ii) The overall impact will be heavily influenced by market context.  For example, currently Washington’s decisions on fiscal policy are creating a slightly favourable USD backdrop; and a positive US equities bias. The favourable US equity environ is providing little support for EM risk, given the uptick in US yields.  A Powell or Yellen choice, may on the face of it be small USD negatives, but if the market still foresees progress on the fiscal front, any negative USD should disappear very quickly.   

iii) Comments from the President raised the possibility of both Powell and Taylor on the board.  In this instance, whoever is the Chair will be seen as the dominant player having outsized impact on overall decisions, and this will dominate the market impact.  A Powell Chair -Taylor board member mix could add to greater dissension and therefore volatility in the medium-term. The initial reaction of a Powell Chair, Taylor on the board, would be a very muted form of the response expected if it was Powell as Chair and no Taylor at the Fed.  A combination of Taylor (even if not Chair) and Quarles on the board would almost certainly add to the Fed becoming more rules based.  In the initial instance such rules will be very lightly applied, not least because of uncertainties over major components like r-star and the output gap.   

iv) Most important: the differences in policy approach between Taylor and other candidates will be more important when growth slows, than currently in the current upturn.   In current circumstances it is expected that the Fed’s institutional depth will depersonalize some of the decision making, at least when growth is near trend.  However, in a slowdown, it could make the world of difference how a Fed Chair approaches unorthodox policies.  Given serious concerns that the near zero slower bound on rates will be tested in the next recession, the approach to QE (and Taylor’s views on “diminishing returns to QE”) could become enormously important. Similarly, Taylor or Warsh would represent a significant diminution in ‘the Greenspan put’. The market’s knowledge of this should immediately add to longer-dated implied volatility.”