Tale of the tape: Who should head the Fed, Yellen or Cohn?
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President Trump told the Wall Street Journal Tuesday that he was considering nominating Fed Chair Janet Yellen for another term when her current one expires next February. But he also mentioned that he is considering his close adviser, Gary Cohn, currently head of the National Economic Council and previously co-chief operating officer of Goldman Sachs, as well as two or three other, unnamed candidates. What would be the strengths and weaknesses of each of these possible Fed chairs?

Janet Yellen, like Ben Bernanke before her, is a distinguished academic economist. She did not have experience in the private financial sector before joining the Fed, but has had to grapple with complex issues about the stability of the financial system as a whole and about the supervision of the bank holding companies that are subject to the Fed’s supervisory authority.

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Gary Cohn was an options dealer on the New York Mercantile Exchange before joining Goldman Sachs. At Goldman, he worked his way up from trading to top management, reaching the No. 2 spot in the organization before leaving for government this year.

 

Yellen has the reserved, controlled demeanor typical of a central bank governor. The smallest signal from a central banker can easily cause frenzy in the markets. Cohn is outspoken and has been called arrogant. He would have to modify his style quite a bit were he to become Fed chair.

The Fed’s two most complex, controversial and impactful duties are to manage monetary policy and to supervise bank holding companies. Let’s look at what we know or can surmise about the two candidates’ approaches to these two sets of issues.

Yellen’s monetary policy views are now well-known. Since the Fed lowered the main interest rate that it influences, the federal funds rate, to practically zero in late 2008, Chairman Bernanke and his colleagues, including Yellen, sought non-traditional ways to make liquidity available to the economy.

The Fed made massive purchases of U.S. government bonds, as well as bonds issued by the government-sponsored enterprises, Fannie Mae and Freddie Mac, to push down long-term interest rates to stimulate the housing market and corporate investments in capital equipment.

When Yellen took over at the Fed in 2014, the Fed had already started to end the bond-buying process. She had a different, but hardly less complex task: deciding when the economy was recovered enough for the Fed to move from stimulus to at least a neutral position. Long story short, the Yellen Fed has moved very slowly and carefully to bring monetary conditions closer to neutral.

Gary Cohn, of course, has no track record in these matters. However, past Fed chairs, including the once-revered Alan Greenspan, were not necessarily professors of macroeconomics. Cohn’s knowledge and practical experience would seem to be roughly on a par with past Fed chairs, most of whom were not academics.

The biggest strength Cohn might bring to monetary policy, however, would be his deep knowledge of the complex financial markets we face today. The U.S. financial system goes far beyond just a collection of banks taking in customers’ money as deposits and making loans. The markets now contain a bewildering array of financial instruments, including complex derivatives.

In addition to banks, there is a tremendous range of non-bank financial institutions that create new kinds of risks and are not part of the traditional “lender of last resort” process the Fed manages. One suspects that Cohn would have a lot to offer here.

The other big challenge for the Fed is to supervise bank holding companies — in practice the largest banks in our economy— as well as systemically important financial institutions (SIFIs). The non-bank SIFIs include insurance companies (appropriate since the insurance company AIG played a major part in the 2008 meltdown) and potentially other large, complex non-bank financial institutions.

Yellen took over after much of the work to reshape the supervision of banks, SIFIs, derivatives and financial stability that had been codified by the Dodd-Frank Act of 2010. However, she had major challenges implementing the new legislation. She relied heavily on Governor Daniel Tarullo, who had been appointed by President Obama and had served under Chairman Bernanke as well.

Tarullo and Yellen have implemented the Dodd-Frank regulations thoroughly and comprehensively, arguably helping to restore the health of our financial system. Importantly, they have also supported the Consumer Financial Protection Board established under Dodd-Frank.

Governor Tarullo resigned near the end of his term this spring, presumably to give President Trump the ability to appoint someone more to his own tastes. The administration has nominated Randall Quarles, who has private sector experience as an investment fund manager and government experience in President Bush’s Treasury Department. Pairing Cohn with Quarles would put two leaders with strong private sector backgrounds in charge of supervision at the Fed.

Having worked in banking supervision myself, I greatly value the knowledge and experience of colleagues with a private sector background. I have seen quite a few people make the transition from private to public very successfully, conscientiously working to restrain and discipline their former private sector colleagues.

However, there are two dangers. One is the possibility that one’s judgement will be clouded by past rivalries or assessments. When former Treasury Secretary Hank Paulson, himself a Goldman alumni, decided to let Lehman Brothers, a perennial Goldman rival, fail, there was concern that his decision was not totally dispassionate.

I am not convinced that Paulson was overly influenced, but I do think that there is legitimate concern. Gary Cohn’s comments that he was open to a return of the Glass-Steagall Act that separated commercial banking from investment banking struck me as possibly also unduly favoring the investment bank he used to work for.

Second, those who come from the financial industry may put too high a priority on the industry’s interests, to the detriment of the rest of the economy and the American people. Certainly, a healthy financial system is crucial to a healthy economy, but tending to the health of the financial system does not mean relieving financial firms from all scrutiny and regulation.

Cohn has already shown hostility toward the Consumer Financial Protection Bureau, as well as willingness to weaken important parts of Dodd-Frank. As Fed chief, he could not write legislation, but both the chair and the governor for banking supervision have enormous influence on how regulation is implemented and on detailed standards.

This administration has shown tremendous solicitude for companies, hedge funds and the financial industry in general, but little concern for those poorer Americans relying on Medicaid to pay for their healthcare or workers fighting wage theft, gender discrimination or violations of labor standards.

A Cohn-Quarles team would only have authority over implementation of financial regulation, not all of these issues, of course. Although I cannot help being just a little afraid of such a team, they are at least competent and experienced, in contrast to so many other of this administration’s appointments. It’s a low bar, and certainly not an endorsement.

Evan Kraft specializes in the economics of transition, monetary policy and banking issues as a professor at American University. He served as director of the research department and adviser to the governor of the Croatian National Bank.


The views expressed by contributors are their own and not the views of The Hill.