Why the next Fed chief will be a Republican who loves low rates
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As a fixed income manager who closely scrutinizes everything that impacts global financial markets, the choice of the next chairman of the U.S. Federal Reserve looms very large to me. Yet for all the attention I pay to the Fed, I “know” no better than anyone else whom President Trump will select when current Fed Chairwoman Janet Yellen’s term ends in early February. It is simply too early to expect that President Trump has made a “final” decision, and a lot can change before announcements are made. (Few thought about Rex TillersonRex Wayne TillersonEx-Trump campaign adviser on Tillerson remarks: Trump will 'pick a fight with anybody' The Hill's 12:30 Report: Pelosi fires back in feud with Trump Trump fires back at 'dumb as a rock' Tillerson on Putin MORE for secretary of State while Trump dined with Mitt Romney.)

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I prefer to build my views based on what President Trump has said, historical precedents and the administration’s economic priorities. In a May interview with CNBC, Trump said Yellen “not a Republican” and that “when her time is up, I would most likely replace her because of the fact that I think it would be appropriate.”

 

He also said Yellen is “a low interest rate person” and “let’s be honest, I’m a low interest rate person.” While contradictory on reappointing Yellen, on a deeper level they suggest that the president has clear criteria: Trump wants his Fed chairman to be a Republican, low interest rate person.

The choice of Fed chairman is inescapably political. Since the 1970s, every nominee has been chosen from the president’s party. Yellen chaired President Clinton’s Council of Economic Advisers, so her Democratic Party affiliation was no secret when she was selected by President Obama in 2013. Trump’s disapproving reference to Yellen’s party affiliation was likely intentional and in line with historical precedent.

Party matters, but interest rate views may be even more crucial. The next Fed chairman will have to deal with many nuanced issues in monetary policy. How big should the Fed’s balance sheet be? What parts of the regulatory landscape need changing? Should the Fed change its communication policy?

There are passionate, eminently qualified candidates on all sides of these important issues. Trump may have views as well. Yet the president is most likely to make his selection based on one thing he knows well: interest rates. Newly-elected presidents will do everything in their power to boost job growth and raise asset prices. However, Trump’s emphasis on low interest rates may be especially important to promoting two of his priorities: infrastructure and manufacturing.

For infrastructure, the link between low interest rates and construction is obvious. Given the diminished prospects for Congress to increase public infrastructure funding, the president may be even more focused on the boost low interest rates can provide to private developers and builders.

For manufacturing, low domestic interest rates are commonly associated with a weaker U.S. dollar. This should benefit American manufacturing because it unambiguously improves the competitiveness of U.S. workers and products. Framed as a domestic issue, low interest rates may be less risky than tariffs, which are inherently international and could lead to retaliation.

Trump is unlikely to choose any economist who advocates for higher interest rates (like John Taylor) regardless of political party or experience. Among the many other Republican candidates, some have taken principled stands on things like the size of the balance sheet (like Kevin Warsh) or the future of Fed communications (like Glenn Hubbard). While interesting, these issues are unlikely to be decisive. On interest rate policy, none of these candidates have expressed clear views, which could be a drawback from the president’s perspective.

Trump could reappoint Yellen, which he has hinted at a few times. She is a proven “low interest rate person,” despite falling short on the Republican end. While not a bad choice, and one financial markets may welcome for her steady dovish leadership, the president may think he can do better than Yellen and seek a Fed chairman who fits both his criteria. Gary Cohn, whose Republican affiliation is at best opportunistic, faces similar issues.

One candidate not on many radars is Jerome Powell, who has served as a Fed governor since 2012. A low interest rate person, he has consistently voted with the Fed majority to maintain accommodative policy. Powell is also an established Republican who worked in the Treasury Department under George W. Bush. More worthy candidates may emerge, but in the end, I believe President Trump will choose a Republican, low interest rate person for Fed chairman.

John Bellows, Ph.D., is a portfolio manager and research analyst at Western Asset Management, an affiliate of Legg Mason. His opinions are not meant to be viewed as investment advice or a solicitation for investment.


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