After hammering Federal Reserve chair Janet Yellen mercilessly on the 2016 presidential campaign trail, Donald Trump will soon get to nominate her replacement. Then-candidate Trump was vicious, saying Yellen should be "ashamed of herself" for doing "political things" by holding interest rates so low for so long and propping up a "false stock market" in the process.
Since then, he has modulated his message. President Trump now claims to be a "low interest rate person" and said he respected Yellen while frequently touting the stock market's post-election surge on Twitter.
With Yellen's term ending in just four months, Wall Street is gripped by the questions of who will replace her, what the new chair's policy path will be, and how that will impact capital markets that have become addicted to the Fed's monetary policy morphine.
The drama is made more intense by the policy crossroads the Fed now finds itself on. Just this month, the Fed will start reducing its bloated $4.4 trillion balance sheet; launching the process of reversing years of asset purchase stimulus that started way back in 2009. It's also set to raise interest rates again in December as labor market tightness (with the jobless rate down to 4.2 percent last month) begins to intensify wage gains -- and thus, it's feared, wage-push inflation.
Moreover, the Fed is already light on bodies. Vice-chair Stanley Fischer is resigning this month. Until Randal Quarles' confirmation by the Senate on Oct. 5, that left four vacancies on the seven-member Board of Governors. Including Quarles and assuming Yellen is replaced, Trump will get to nominate five governors overall and influence the path of monetary policy for years to come.
Prediction markets currently put former Fed governor Kevin Warsh as the most likely choice to replace Yellen. The Republican was chosen by President George W. Bush under a veil of criticism: At the time he was just 35 years old, the youngest appointment in the history of the Fed. After working closely with then-Fed chairman Ben Bernanke during the financial crisis, he expressed skepticism for the post-crisis efforts to use asset purchases to lower long-term interest rates.
Warsh's star has risen at the expense of Gary Cohn, the former Goldman Sachs banker and current Chief Economic Adviser to Trump who's clout is believed to have weakened in the wake of reported criticism of the president's handling of the Charlottesville protests.
Warsh is politically connected (his wife is heiress of the Estee Lauder fortune) and has generated attention with his recent Wall Street Journal op-ed describing the Fed's recent actions as "confusing" and "erratic" amid disappointing post-crisis economic growth despite massive runups in financial asset valuations.
The crux of the problem, in Warsh's words, is the Fed's obsession with the stock market under Yellen and Bernanke:
"The Fed often treats financial markets as a beast to be tamed, a cub to be coddled, or a market to be manipulated," he wrote. "It appears in thrall to financial markets, and financial markets are in thrall to the Fed, but only one will get the last word. A simple, troubling fact: From the beginning of 2008 to the present, more than half of the increase in the value of the S&P 500 occurred on the day of Federal Open Market Committee decisions."
At first blush, Warsh's hawkish policy stance seems to be at odds with Mr. Trump's newfound dovishness. But he shares the president's desire to see post-crisis regulation on Wall Street rolled back.
Next on the list for Fed chair is current Fed governor Jerome Powell, who Oxford Economics notes was "something of a compromise choice" between President Obama and Republicans in the Senate when he was nominated in 2012. He's a moderate Republican who replaced Democrat Jeremy Stein. He has expressed some willingness to ease the Dodd-Frank banking regulations that followed the financial crisis.
As for Yellen, she is down in third with just 10 percent odds of hanging on. That's higher than Cohn, at least.
Expect a decision soon, as both Bernanke and Yellen were nominated in October (2005 and 2013, respectively) before being confirmed by the Senate in January.
Yellen, it should be said, hasn't ruled out staying on for another term as chairman. And, separately, her term as a Fed governor continues into 2024, meaning she could conceivably stick around even if Trump doesn't want her; although this is unlikely.