John Taylor, darling of conservative economists, will not be the next Fed Chair. Why? Because President Trump will not want to change a winning game. He is, after all, very fond of winning.
President Trump said he will make his selection for Federal Reserve chair before he leaves for Asia on Nov. 3. In pursuit of that goal, Trump has been interviewing possible successors to Janet Yellen, whose four-year term ends on Feb. 3.
As is normal for this White House, insiders are pushing candidates whose ideologies span a wide spectrum. The president has indicated that he will consider reappointing Yellen; he met with her briefly Thursday.
He has also interviewed John Taylor, a well-respected Stanford economist whose view of the Fed role differs markedly from that of the current chair. Other possible picks, who more or less bridge the divide between Taylor and Yellen, include National Economic Council Director Gary Cohn, Federal Reserve Governor Jerome “Jay” Powell and former Fed Governor Kevin Warsh.
John Taylor is well known for endorsing a less interventionist Fed, and for his so-called “Taylor Rule.” That guideline, as Taylor wrote in a 2016 Wall Street Journal op-ed, “calls for central banks to increase interest rates by a certain amount when price inflation rises and to decrease interest rates by a certain amount when the economy goes into a recession.”
He advocates for a clear, rules-based monetary strategy, not, as critics have charged, for inflexibility.
When he introduced his rule in 1993, the expectation was that when inflation is in line with the Fed’s targeted level and the economy is operating at full potential, the real federal funds rate would be 2 percent — about its historical average.
That may sound like what has taken place under Janet Yellen, but Taylor says the Fed has kept interest rates too low for too long, policies that have contributed to the sluggish recovery and for credit distortions. He also would not have condoned the ground-breaking quantitative easing program, which has led to the Fed’s current unprecedented holdings of $4.5 trillion in Treasuries and mortgage-backed securities.
He says the Fed’s moves have created uncertainty, driven investors into riskier assets seeking yield and that ultra-low rates have led to excess government spending.
In practical terms, if he were head of the Fed, Taylor would probably push rates up faster than the gradual increase being orchestrated by Yellen, and he would reduce the Fed’s balance sheet more aggressively. Many think that could be risky to economic growth and to the stock market. That could in turn be risky to President Trump.
Arguments over the fine points of monetary policy are unlikely to move the president. Conservative economists like Larry Kudlow have told Trump that higher rates and a stronger dollar, especially in conjunction with tax cuts, would encourage investment in the U.S. and lead to higher productivity and growth.
But the president will hear from others who say that only by gradually reining in the loose money will he safeguard the best thing going for his administration — the booming stock market. Since Election Day, the S&P is ahead 19 percent, a fact that Trump regularly notes with enthusiasm.
With the liberal media critical of every step he takes, the president can rightly enjoy the anonymous kudos bestowed by investors who cheer easy money, the prospect of a tax cuts and lighter regulations on industry. Why would he put that at risk?
That will be the advice he gets from Treasury Secretary Steve Mnuchin, who is said to be recommending Jay Powell for the Fed post. Powell would, in effect, be a Yellen surrogate. He has mostly agreed with her management.
Reappointing Janet Yellen herself would be politically toxic, since many Trump supporters dislike the aggressive measures undertaken by the Fed in recent years.
Visiting Hoover Institute fellow Kevin Warsh represents a Goldilocks choice — appeasing those who are critical of Yellen’s policies, yet he’s not as controversial as Taylor. Gary Cohn is close to Trump; that could weigh in his favor.
Cohn has been a strong advocate of loosening financial regulations imposed by Dodd-Frank in the wake of the financial crisis. Since rulemaking comes under the aegis of the Fed, that could boost his prospects.
The president has said on numerous occasions he favors low interest rates. Of course he does; he’s a real estate developer, an industry that thrives on cheap credit.
That will also drive him to a Yellen-esque pick. In the end, though, Trump’s choice will most importantly signal comfort with the status quo and a stock market that continues to hit new highs. That will not be Taylor.
Published on The Hill