Market Reaction to Yellen

Markets opened strongly today on the news that Larry Summers has withdrawn his name from consideration for the Chair of the Federal Reserve. Conventional wisdom now holds that Janet Yellen will be the nominee named by President Obama [the same conventional wisdom that thought she would be the nominee three months ago?].

Ezra Klein makes a strong argument in favor of Yellen:

1) She’d be the most qualified Federal Reserve chair in memory.

2) She got the big calls right.

3) We still need someone who cares — and cares a lot — about unemployment.

4) She’s a consensus pick — at least outside the White House.

5) It’s time to shatter the glass ceiling.

Tim Duy is more skeptical:

The market reaction stems from the belief that Summers is a hawk and Yellen is a dove. While I understand that this is a widely held belief, I think it is insulting to both candidates to paint them with such broad strokes. I think that either candidate would be hawkish or dovish as the situation required. I also think that if you believe Yellen is an unabashed dove, you are going to be surprised by her reaction if inflation rears its head in the slightest.

I find Duy more convincing here; I think the political horse-race mentality that has dominated the summer debate over who will be Obama’s nominee for the Fed position has greatly exacerbated the policy differences between Yellen and Summers. Summers has said very little about his preferences for monetary policy; however, there was some hint that Summers believed QE to be an ineffective policy tool for stimulating growth (there is some evidence to support this fact), and, because of that belief, markets inferred that Summers was hawkish on monetary policy.

Because the Yellen v Summers debate got blown out of proportion by the media, as soon as Summers was cast as the ‘hawkish’ policymaker, Yellen had to become the ‘dovish’ policymaker’ [and the evidence from the market reaction today is that the markets absorbed that belief]. Unfortunately, that characterization isn’t completely accurate–granted, right now Yellen appears to be one of the Fed committee members that is more concerned about unemployment relative to financial instability or inflation. However, Yellen is also the current vice-Chair, and one would have to presume that she has had a fairly significant impact on current Fed policy.

To quote Duy once again:

Where was Yellen in all of this? Shouldn’t her supposedly dovish voice have been pushing back against this hawkish turn of events? Or is she part of the status quo, largely in agreement or just not sufficiently motivated to push back? None of this is meant to challenge Yellen or her worthiness for the position, but only to challenge the assumption that she will pursue a more dovish policy that Summers. If the case against Summers was that he was not 100% committed to quantitative easing, you really need to take that into context of an current FOMC that is not 100% committed, and indeed has laid out an explicit plan to end the program without Summers on board.

I think he hits the nail on the head here–a lot of people have been unhappy with the unnecessarily hawkish disposition of the Fed over the past 4-5 months, I think the question really has to be asked–if Yellen is a dove, why hasn’t Yellen been more upset about the potential end of tapering that could possibly begin this week? Worth thinking about.

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