The Importance of Yellen’s Comments

Yellen’s talk after the North American markets closed was revealing even though she added little to
market’s body of knowledge about the prospects for a June hike or the issues
surrounding the balance sheet. 
That said she did nothing to dissuade the
market from leaning toward a June hike, which through the Fed funds futures
strip, the CME estimates near 63%.  
We had detected a shift in
the Fed’s stance that we characterized as looking for data to confirm the
recovery to now looking for opportunities to normalize conditions.
  Yellen sees similarly.  She
said the Fed has shifted from “a post-crisis exercise of healing” to
now trying to sustain the economic progress.  
Yellen, a labor economist in
her own right before joining the Fed,
acknowledges that the unemployment rate may be misleading. 
 She is concerned that the decline in the
participation rate of prime-age workers
may be concealing unemployment.  Some may be discouraged.  This hints at why despite the gradual rate
hikes, Yellen still think monetary accommodation is necessary.  
The Fed Chair expressed
concern that the independence of the central bank is under threat.  
The culprit is not the President but
Congress.  She specifically cited the efforts to audit the Fed and to
impose a decision-making rule, like the Taylor Rule.  Although many
worried that Trump would encroach on the central bank’s independence, this
seems increasingly unlikely.  
The main reason is not
ideological, but pragmatic. 
 There is no need to fight that
battle.  Trump will influence the Fed the old-fashion way:  through
the power of appointment.  He can nominate three of the seven board of
governors this year and probably two more next year
when Yellen’s and Fisher’s terms as Chair and Vice end.  
It is possible that Trump
re-appoints Yellen.  
After
all, Volcker, Greenspan, and Bernanke were appointed by the president from one party and reappointed by a
president from the other party. However, it is clear that Trump does not see himself
as limited by political tradition.  We would put low odds on Yellen being reappointed as Chair.  

Lastly, within a discussion
about global forces, 
 Yellen said that the surprise August
2015 devaluation of the Chinese yuan led to a tightening of financial
conditions and this delayed a Fed hike.  Like others, we expected a hike
in September 2015, which was later delivered
in December.   The important point here
and one that has policy implications is
that many various measures, financial conditions are easier here at the start
of Q2 than they were in December 2016 or just a few weeks ago.  

The dollar traded poorly
after European markets closed, amid heightened geopolitical tensions amid some
reports about Chinese troop movement toward the North Korean border as the US
brings an aircraft carrier into the region, and separately, the US is claiming
that Russia had prior knowledge about the chemical attack in Syria. 
 The White House press secretary warned Syria of
further action if it used chemical weapons or barrel bombs (barrels full of
fuel and shrapnel).  Geopolitical risks tend to have a short-run impact on the markets.  We see Yellen’s comments as slightly hawkish
in the current context, and barring a premature tightening of financial conditions,
a June hike remains the most likely scenario, even after March’s poor jobs growth and the Atlanta Fed bringing its GDPNow
tracker to 0.6% for Q1.  

Disclaimer

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