This guest commentary was written by Mike O'Rourke of JonesTrading.
“The Federal Open Market Committee (FOMC) consists of twelve members--the seven members of the Board of Governors of the Federal Reserve System; the president of the Federal Reserve Bank of New York; and four of the remaining eleven Reserve Bank presidents, who serve one-year terms on a rotating basis.”
It has been years since this was the composition of the FOMC and will likely be years before it returns to that state. There were several Federal Reserve Board (FRB) departures 2013 and 2014 that left the Board short two Governors despite the additions of Stanley Fischer and Lael Brainard. Governor Tarullo resigned earlier this year and Vice Chair Fischer’s surprise resignation today will create a 4th vacancy on the Board of Governors.
As current market expectations stand Chair Yellen has at best a 50-50 chance of returning next year. That creates the distinct possibility that Jerome Powell and Lael Brainard might be the only two returning Governors on the Federal Reserve Board next year. In addition to the personnel problems at the FRB, the Richmond Fed still has not announced a replacement for former President Lacker who resigned in disgrace earlier this year as part of the Fed leak scandal.
The design of the Federal Reserve Board was intended to avoid situations like this “The lengthy terms and staggered appointments are intended to contribute to the insulation of the Board--and the Federal Reserve System as a whole--from day-to-day political pressures to which it might otherwise be subject.”
Needless to say, the process has been politicized. President Obama appointed former Bank of Hawaii CEO and Economics Professor Kathryn Dominguez in 2015. Those nominations did not come to fruition as Senate Banking committee Chair Richard Shelby refused to move forward with confirmations until the President appointed the Fed’s Vice Chair for Supervision, a role created by Dodd Frank.
In July President Trump nominated Randal Quarles to that position as Vice Chair for Supervision, the Senate still needs to schedule his confirmation. Quarles is expected to share Trump’s preference for a light regulatory touch. The next leading candidate for a FRB Governorship is former Richmond Fed Research Director Marvin Goodfriend. Most of the other names tied to Fed speculation have been considered candidates to possibly replace Chair Yellen.
Until today, National Economic Director Gary Cohn was the odds on favorite to win the top job. Former Fed Governor Kevin Warsh, Stanford Economist John Taylor and Columbia Economist Glenn Hubbard have all been mentioned as potential candidates to replace Yellen. Former Fed Governor Larry Lindsey entered the conversation today.
Before Quarles was nominated, former BB&T CEO John Allison was considered for the Vice Chair of Supervision. It appears he is still under consideration for a Fed position. There has also been speculation that FDIC Vice Chair and former longtime Kansas City Fed President Thomas Hoenig is another potential nominee. Overall these candidates have expressed views that would be far more conservative than those of the current composition of the Federal Reserve Board. President Trump’s first nominee Quarles is a good indication that these 4-5 new Fed Governors will be of a more market oriented and less activist mold.
This is the end of an era at the Federal Reserve.
Even if Chair Yellen is reappointed her supporting cast of Governors that historically have been yes votes in the bag for the Chair would have very different and likely opposing views. It creates a challenging environment for the current Chair. These prospective officials will advocate a lighter regulatory touch, nor would they pursue the same level of handholding and support to financial markets. They will expect markets to actually be markets, not wards of the central bank. Throughout the past decade domestic and global monetary policy have undoubtedly been the primary catalyst driving global financial markets a changing of the guard will likely result in a change of market behavior.
This is a Hedgeye Guest Contributor research note written by Mike O'Rourke, Chief Market Strategist of JonesTrading, where he advises institutional investors on market developments. He publishes "The Closing Print" on a daily basis in which his primary focus is identifying short term catalysts that drive daily trading activity while addressing how they fit into the “big picture.” This piece does not necessarily reflect the opinion of Hedgeye.