Fed: The Vice Chair

Published on January 11, 2018

The White House nomination of the next Vice Chairman of the Federal Reserve Board of Governors has narrowed down to a two-man race between Federal Reserve Bank of San Francisco President John Williams and Lawrence Lindsey, a former Fed governor and economic policy advisor under former President George W Bush. 

An announcement on the nomination is expected shortly after the Senate votes later this month to confirm Fed Governor Jerome Powell as the successor to Chair Janet Yellen, whose terms ends February 8.

*** We believe the leading contender as nominee to the Vice Chair position is Williams, who is said to be favored by Powell. But political support for Lindsey within the White House and among Republicans on Capitol Hill has risen sharply in recent weeks. While the selection process has not closed — other candidates, including other Fed district presidents, may still be interviewed — we understand the selection and vetting process has effectively narrowed down to Williams and Lindsey. ***

*** We understand a Williams nomination was initially proposed by Vice President Michael Pence, based on a strong endorsement by Stanford University’s John Taylor. Taylor was Pence’s recommendation as the Administration’s nominee to the Chair, but he narrowly lost out to Powell. Pence was since given the lead in the Vice Chair selection process. We believe both Treasury Secretary Steven Mnuchin and National Economic Council Chairman Gary Cohn also lean to Williams. ***

*** But Lindsey is lobbying hard for the position and has indicated he will accept the nomination if offered, under “the right conditions” (what exactly, we are not sure). More to the point, he has accumulated considerable political chits among the Republican leadership on Capitol Hill and with the President for what is seen as his key role in helping to win over wavering House Republican conference members and other deficit hawks in making the case the tax cut bill would be self- financing. *** 

The final choice between the two likely nominees could carry significant implications for the Federal Reserve’s policy path and, perhaps more importantly, for the internal dynamics under the untested leadership of incoming Fed chairman Powell. 

Williams and a Smoother Transition

Williams as the Vice Chair would ensure a smoother transition from the Yellen years to Powell’s new term. Williams is seen as an effective number two under Powell in working with the Board staff and on macro-economic policy, which is not a Powell strength. Willliams in effect would serve the supporting role on monetary policy much in the same way Vice Chair Randal Quarles is overseeing the Fed’s banking supervisory responsibilities. All three of the senior Board leadership have taken a particular interest in financial stability issues that will be increasingly needing to be factored into monetary policy.

Williams, unlike Powell who only came to the Fed late in his career that was previously in investment banking, would also bring a strong institutional knowledge of the Fed to the Board’s senior leadership. 

After academic work at Stanford University (under Taylor), the London School of Economics and a PhD from the University of California at Berkeley, Williams started his career at the Board as a staffer in the forecast modeling division. He moved on to the San Francisco Fed to become its head of the research division in 2002, under then San Francisco President Yellen. He succeeded her when Yellen moved to Washington in 2011 as Vice Chair under former Fed Chairman Ben Bernanke. 

Williams thus knows the Board staff strengths and weaknesses, having kept in close touch with many of the Washington-based staff, including Thomas Laubach, the current head of the monetary affairs division, and with whom Williams has written several influential papers on R*, or the effective and longer run real neutral rate, that has been driving so much of the Fed policy thinking in recent years. 

Williams has been pretty much in the mainstream of macro-economic thinking and has strongly supported Chair Yellen’s carefully balanced gradual pace of policy normalization. He was also among the first Fed officials last year to raise the issue of whether the Fed needed to reassess its existing flexible inflation targeting policy framework. He has since become an early proponent for consideration of Price Level Targeting.

As a Vice Chair at the Board, Williams is likely to take the lead with Powell’s support in identifying and shaping potential changes in the Fed’s reaction function to the evolution of inflation and potential changes to the Fed’s policy framework. 

We understand that some time relatively soon after Powell assumes the helm of the Fed as its Chair, he may form a subcommittee of three or four Federal Open Market Committee members to look into an assessment whether, in time, there could or should be some changes to the policy framework. If Williams indeed becomes the Vice Chair, he would likely head the subcommittee. 

Several FOMC members have also been giving recent speeches on the policy framework debate. Former chairman Bernanke, in a one day conference earlier this week at Brookings, also called for such a subcommittee to be formed.

Lindsey as Disrupter?

Lindsey, on the other hand, could prove to be more of a “disrupter” to the current Fed collegial culture and policy process and assumptions, especially on the interaction between fiscal and monetary policy.

Lindsey has had a long, distinguished career as an economist, attuned to Republican economic ideology, and in many ways shaping it. After earning a PhD from Harvard University, he worked in President Reagan’s administration on tax policy, returned to Harvard to teach for several years and founded an economic consultancy, and was appointed to the Fed Board of Governors by President George H. Bush, where he served from 1991 to 1997 under then Chairman Alan Greenspan. 

After working as George W. Bush’s economic advisor during his campaign in 2000, Lindsey went on to become the chairman of President Bush’s National Economic Council, where he played an instrumental role in shaping the Bush tax cuts of 2003. Since leaving the White House, Lindsey has been President and CEO of the Lindsey Group, an economic consultancy just outside Washington. 

In recent years, Lindsey had tended to be a fairly hawkish critic of the Fed’s QE and forward guidance accommodative monetary policy of Chairman Bernanke and the slow start to Chair Yellen’s policy normalization strategy.  He often pressed for the Fed to move more quickly on shrinking the balance sheet and rates increases.

Since the November 2016 elections, Lindsey’s views have evolved somewhat. On rates policy, for instance, he has suggested the Fed may have more room to allow the economy to run a bit without rate hikes that could prove excessive. He most recently argued the base case of three rate hikes in 2018 would be more than adequate, even with the fiscal stimulus, especially with the untested nature of the balance sheet reduction now underway.

Beyond his analysis of Fed rates policy, Lindsey spent most of last year writing on and lobbying for tax cuts, strongly promoting the Trump economic agenda. He is said to have played a pivotal role in winning over reluctant members of the House Freedom Caucus and other GOP deficit hawks by convincingly arguing the tax cuts would be self-financing, based on aggressive assumptions of higher trend growth that would allow for higher growth without inflation, and thus higher tax revenues in the back years of the ten-year baseline projection.

In making his case, he argued directly against the estimates of the bi-partisan Joint Committee on Taxation staff, who dynamic scored the tax cuts as still adding $1 trillion to the deficit, and $1.5 trillion in a static scoring. The Republican leadership on Capitol Hill, were said to be immensely relieved by Lindsey’s efforts, which helped secure a Republican-only passage of the “Tax Cut and Jobs Act” in the House, and which was eventually passed after conference by both the Senate and House just before Christmas.

But while scoring considerable political chits for his work, Lindsey’s openly partisan party politics could work against him in confirmation hearings, if he is nominated by the White House. And it would especially work against him within the Fed, both with Powell and the other members of the FOMC, and the Board staff.

Timeline to Confirmations

No date has yet been set for Powell’s confirmation vote on the Senate floor, but it is expected before the end of the month once Congress has passed another extension of the FY2018 Continuing Resolution to keep the federal government funded. Chair Yellen’s term as Chair ends on February 8, and though it is unlikely, Yellen could be asked to extend her term as Chair for a few weeks if needed until Powell is confirmed in the Senate floor vote. 

The Senate Banking Committee already voted in early December to refer Powell to a full Senate confirmation vote. But because the Senate did not get the vote done before the end of the year, the White House will need to formally renominate Powell as the next Fed chair (the Senate will likewise need to reconfirm Quarles to a new term as the Vice Chair for Banking Supervision).

If the Vice Chair nomination comes later this month as expected, the confirmation hearings and Senate floor vote could, in theory, come in time for the new Vice Chair to take a seat at the March 20-21 Federal Open Market Committee meeting.

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