Here’s how the new Fed chief impacts the markets
President Bush announced
the new Fed Chairman to take over Greenspan’s job when he retires early next
year. For almost two full decades, Alan Greenspan has held the top
post at the Federal Reserve, one of the most, if not the most important central
banks in the world. For a whole generation of traders who sprouted during the
tech boom, Greenspan is the only Fed Chairman that they know. Now, they will
have to get to know a new Chairman – Ben Bernanke.
Say Goodbye To:
For almost two full decades, Alan Greenspan has
held the top post at the Federal Reserve, one of the most, if not the most
important central banks in the world. For a whole generation of traders who
sprouted during the tech boom, Greenspan is the only Fed Chairman that they
know. Greenspan’s decisions impact not only Americans, but also every single
person or corporation that is invested in dollar denominated assets.
In the FX market, $1.9 trillion changes hands
every day with 89% of all of those transactions involving the US dollar,
illustrating the influence that Greenspan has on the global financial markets.
The market has scrutinized and analyzed everything from the size of his
briefcase to every word that he uses and doesn’t use in his speeches.
Since taking the top job, Greenspan has managed
to navigate the US economy through the 1987 stock market crash, the 1991 Gulf
War oil spike, the collapse of Long Term Capital Management, the burst of the
Nasdaq bubble and 9/11 with only minimal setbacks for the economy. His ability
to get us over these tough hurdles with his characteristically calm and logical
demeanor has granted him a semi-divine status amongst both investors — large and
small, as well as international political figures. During his tenure as
Chairman, the US economy grew 16 out of 17 years.
There is probably no other person who commands as
much respect in the financial markets today as Greenspan. What this means is
that there are big shoes to fill and it remains to be seen how well the new
Chairman will able to navigate the economy in the years ahead.
Yesterday, President Bush
announced his pick for Greenspan’s replacement : Ben Bernanke
Ben Bernanke
Starting his career with a Ph.D. from MIT and a
long time teaching stint in economics and public affairs at Princeton
University, Ben Bernanke is probably best known for his term on the Federal
Reserve Board of Governors, which he served since August 5, 2002. As a member of
the board, he has quickly risen in recognition over the short span of his term
as his speeches are now essentially the second most analyzed by Fed watchers
after Greenspan. His most well-known stances include an unwavering devotion to
inflation-targeting, which Greenspan opposes. He is also known as
“printing-press†Ben, a title that he has been criticized for, because it means
that he has explicitly promised to print money as a manner of increasing
liquidity to generate inflation, if necessary.
Bernanke has been credited with shaping the
policy debate on deflation and helping to spur the decision of lowering interest
rates to 45 year lows of 1%. Other work Bernanke has done indicates his advocacy
of combining even more indicators into the models used to determine monetary
policy in order to achieve more effective economic stabilization. He has studied
this possibility over the years and penned papers describing possible
implementation methods.
As he prepares to take on the role of President
of the CEA, many see this as a preliminary trial position before Bush names him
as the top choice to follow Greenspan, who was head of the CEA under President
Ford. Of the top 3 original contenders for the position, Bernanke is the last
one to come into this role. Having Bernanke as Fed Chairman would mean that we
would probably be moving to an inflation targeting policy similar to the ones
followed by the European Central Bank and the Bank of England. He may also want
to prove early on that he is a staunch inflation fighter. This would be more
restrictive and less flexible than the current policy, but having Bernanke as
Chairman would also mean bringing about greater disclosure to the public and
hopefully the credibility to the Fed.
The Curse of the First Year
Despite how qualified Bernanke may be, he may
still be vulnerable to the curse of the first year as Fed Chairman. With energy
prices skyrocketing, inflation increasing and the housing market slowing,
consumer spending could face some big risks in the months ahead – this would be
a perfect recipe for some challenges tasks on Bernake’s plate.
Since 1970, every Fed Chairman that assumed the
top job has faced a major crisis shortly after entering office. According to
Toni Straka of Prudent Investor, “Arthur F. Burns, chairman from February 1,
1970, climbed the top chair only to oversee the beginning of the 1970’s bear
market, the closing of the gold window and the first oil shock 1973. When he
stepped down on August 6, 1979, his successor Paul A. Volcker had to fight
double digit inflation with the highest Fed Funds rates seen ever and managed
that the economic downturn through his tightening only became an on-and-off
recession from 1979 to 1982 with GDP never declining more than a quarter in a
row.†Greenspan himself had to deal with the stock market crash of 1987.
Dollar and Other Market
Responses
Finding someone to fill Greenspan’s shoes who
actually held some respect in the international financial markets was surely a
daunting task, but the same was said when the government was looking for someone
to fill Greenspan’s predecessor Paul A. Volcker’s shoes. On the day that
Greenspan was announced as the replacement for Volcker, the trade-weighted
dollar index fell 1.7 percent, the S&P 500 index slid 0.5% while Treasury yields
increased 25 to 35 basis points.
Yesterday, we also saw a slide in the dollar
initially. The effect did not last long though, as Greenspan managed to maintain
the reputation of the Federal Reserve throughout his tenure. Given his
experience in the Federal Reserve working with Greenspan, the same could be said
about Bernanke. However, only time will tell – in the meantime, we breathe a
sigh of relief that this pick was surely the safest one.
Kathy Lien
Kathy Lien is the Chief Currency Strategist at
Forex Capital Markets. Kathy is responsible for providing research and analysis
for DailyFX, including technical and fundamental research reports, market
commentaries and trading strategies. A seasoned FX analyst and trader, prior to
joining FXCM, Kathy was an Associate at JPMorgan Chase where she worked in Cross
Markets and Foreign Exchange Trading.
Kathy has vast experience within the interbank market using both technical and fundamental analysis to trade FX spot
and options. She also has experience trading a number of products outside of FX,
including interest rate derivatives, bonds, equities, and futures. She has a
Bachelors degree in Finance from New York University. Kathy has written for
Stocks and Commodities, CBS Market Watch, ActiveTrader, Futures and SFO
Magazine. She is frequently quoted on Bloomberg and Reuters and has taught
seminars across the country. She has also hosted trader chats on EliteTrader,
eSignal, and FXStreet, sharing her expertise in both technical and fundamental
analysis.