On Nov. 2, President Donald Trump nominated Jerome H. Powell to be the next chairman of the U.S. Federal Reserve. Powell is currently the governor of the U.S. Federal Reserve, but would be next to replace current Chair Janet Yellen in February. Despite Powell’s stance as a Republican, former President Barack Obama appointed him for his first Fed position in 2012.
The Federal Reserve
The Federal Reserve, also called the Fed, acts as the central bank of the U.S. The Federal Reserve system consists of three key entities, such as the 12 regional Federal Reserve Banks, Federal Reserve Board of Governors and the Federal Open Market Committee that stabilizes the health of the U.S. economy.
The main functions are to provide and maintain effective payment systems, supervise and regulate banking operations and conduct monetary policy by adjusting the money supply. When the Fed wants to expand the economy, it will use one of these approaches to increase the money supply. This will decrease interest rates, which increases spending—also called expansionary monetary policy. Decreasing the money supply is the exact opposite, also called contractionary monetary policy.
The Fed mainly conducts monetary policy by using open market operations, which is the purchase and selling of government bonds. If the central bank wants to boost the economy, they can increase the money supply through purchasing bonds and vice versa.
Another approach the Fed may use is to adjust the discount rate, which is the interest rate the Federal Reserve Banks charge local banks for short-term loans of reserves. If the Fed wants to increase money supply, it will decrease the discount rate to encourage banks to borrow more money for lending.
The Fed may also adjust the reserve requirement to fluctuate the money supply. This determines how much money commercial banks can hold in reserve. If the Fed needs to increase money supply, it will decrease the reserve requirement and vice versa. However, they rarely make changes to the reserve requirement, since it is expensive for banks.
During this strong labor market, Powell currently favors the financial regulation Dodd-Frank Wall Street Reform and Consumer Protection Act. He believes it is important to return back to this regulation to consider economic predictions and to adjust for current policies. Powell also plans to normalize the balance sheet by posing a gradual decline in order to increase the federal fund rates while the economy is still strong to bring inflation back to its desired rate.
Janet Yellen’s term
Yellen has held an unsteady history with Trump, especially after he denied Yellen from continuing a second term. During his 2016 presidential campaign when he bashed the Fed’s actions, Trump claimed that Yellen loosened policy for political reasons to improve former President Obama’s finances. However, his attitude changed during his announcement, especially as Trump quoted that Yellen “is a wonderful woman who’s done a terrific job. We have been working together for 10 months and she is absolutely a spectacular person. Janet, thank you very much. We appreciate it.”
In March 2009, Yellen’s term consisted of continuous bull market runs in stocks and low interest rates. Simultaneously, the Fed had sought to control the stimulus initiated during this crisis. The central bank has escalated its target interest rate four times under Yellen. Additionally, the Fed has attempted to decrease the $4.5 trillion balance sheet build-up that consists of bond purchases. These bond purchases were taken in efforts to decrease mortgage rates and push investors to risk assets like stocks and corporate bonds.
Supporters of Powell
“Today is an important milestone on the path to restoring economic opportunity to the American people,” said Trump during his announcement. He continued saying the Fed requires “strong, sound and steady leadership” and Powell “will provide exactly that type of leadership.”
Richard Clarida, who is a global strategic advisor at Pimco, explained that “Powell is a smart choice for Fed chair. He is likely to provide monetary policy continuity by adopting Yellen’s framework of gradually normalizing rates and predictably reducing the Fed’s balance sheet. He is also likely to be more receptive to calls adjusting financial regulation prudently, especially for smaller banks.”
While several officials agree upon Powell’s nomination, some critics question his expertise. Powell’s past careers from the Fed consisted of being a lawyer, working in investment banking and working at the Treasury under former President George H.W. Bush. The large majority of Fed chairs have had strong backgrounds in economics, holding Ph.D.s. Although this puts him at risk of potential policy decision mistakes, he will likely continue the programs led by Yellen, while allowing Trump to make his own mark.