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With Janet Yellen likely to be nominated by President Obama to succeed Ben S. Bernanke as chief of the Federal Reserve, it is appropriate to look ahead and consider the confirmation process that Ms. Yellen will face. As Sheila C. Bair, the former chairwoman of the Federal Deposit Insurance Corporation, has written persuasively, Ms. Yellen is well qualified for the position, is politically independent, and has the knowledge to navigate the difficult path in eventually unwinding the Fed’s crisis-era monetary policy interventions, including the asset purchases known as QE3.
I agree that Ms. Yellen would be a superb choice to lead the Federal Reserve. She is a distinguished academic with relevant policy experience at the White House and the Fed. Ms. Yellen further has a track record of excellence at the top of a large organization, as the Federal Reserve Bank of San Francisco became an intellectual leader within the Fed system during her tenure as president (and has remained so under her successor, John Williams).
Judging from the enthusiasm on the left and neutral-to-positive sentiment on the right, Ms. Yellen is likely to be confirmed. (The assertion in an Economix post last week that there was “a great deal of chatter in Washington” against Ms. Yellen is puzzling – griping by White House aides was directed at the administration’s “frenemies” on the left who forced Lawrence Summers to withdraw from consideration, and not at Ms. Yellen.) Even so, to reach this successful outcome, she will have to address potential concerns from both sides, with answers that thread a narrow line between the two parties’ quite different views of the Fed’s actions to date.
Given their crucial role in clearing the way for her nomination, Democratic senators are likely to vote for Ms. Yellen even after they learn that her views are in line with the economic mainstream and thus out of sync with progressive orthodoxy: she favors trade accords like the North American Free Trade Agreement, recognizes that changes to Social Security benefits are appropriate as part of reform, and spoke in favor of the repeal of the Glass-Steagall legislation that separated commercial banking and investment banking.
With the Fed having broad financial regulatory power under the Dodd-Frank act, senators are likely to focus on this latter part of Ms. Yellen’s record, since reinstating Glass-Steagall has become something of a cause célèbre among people seeking to shrink large banks. This is despite the inconvenient reality of a tenuous connection between President Bill Clinton’s 1999 financial deregulation and the recent financial crisis and even though proponents of a return to Glass-Steagall acknowledge that it would not have prevented the crisis.
Still, Ms. Yellen must assure senators that the Fed under her watch will be a tough cop on the financial beat, even if a return to a simpler financial system is neither likely nor desirable on the whole (by which I mean that there are advantages to a simpler financial system, but also yet larger costs in terms of forgone benefits).
Democratic senators, moreover, will look for assurances that Ms. Yellen will carry on the Bernanke approach of expansionary monetary policy with the hope of fostering economic growth and job creation. There is an irony here in the desire for such continuity in that Mr. Bernanke faced considerable opposition at his second confirmation in January 2010, some of it from Democratic senators. Senator Jeff Merkley, Democrat of Oregon, for example, voted against Mr. Bernanke on the grounds that his policies involved “prioritizing Wall Street over American families.” The natural response to such criticism is that the Fed’s actions to stabilize the financial system were done precisely to help American families — that not saving Wall Street would have meant an even greater catastrophe on Main Street.
Ms. Yellen can appeal to Democratic senators by talking about how the Fed is falling short on both aspects of its statutory mandate: inflation is below the Fed’s target while the unemployment rate is still painfully high. She will find appreciative nods from the left by stating that, like Mr. Bernanke, she is deeply concerned about the lasting impact of unemployment, and that with inflationary pressures still faint, she expects to maintain an expansionary monetary policy.
I suspect that the reality is more complex than the cartoon portrait often expressed by market participants of Ms. Yellen as an unabashed monetary dove. When the economy strengthens and the time comes for the Fed to take away the punch bowl, she will not hesitate — after all, allowing inflation to get out of control is the surest way to end up on the list of failed Fed chiefs. For now, however, with little sign of inflation in the prices of goods and services, and with wage pressures absent, Ms. Yellen can safely appeal to Democratic senators by espousing the basic need to achieve the Fed’s targets.
A challenge for Ms. Yellen is that such talk of monetary accommodation will raise eyebrows among Republican senators, who can be expected to pose questions regarding the benefits of continued easy money and express concern over the possibility that the Fed’s quantitative easing is distorting asset prices and setting up financial markets for another cycle of policy-induced boom and bust. Indeed, there is some evidence for this, with the volume of loans being made under easy terms (so-called covenant lite lending) back above pre-crisis levels – a phenomenon that was noted by Mr. Bernanke at his news conference last week.
Ms. Yellen can respond to this concern through tough talk regarding banks and financial market regulation. She can point out, for example, that financial institutions are in much better shape to withstand potential losses than was the case five or six years ago, and that she will not hesitate to use the Fed’s authority to crack down on risky behavior.
This sort of tough talk will not reassure all Republicans on easy money, but it will help satisfy them that she understands the potential downsides and will crack down when needed — even if she might raise interest rates somewhat later than the Fed chief who would have been appointed by Mitt Romney. But elections have consequences.
This part of the confirmation hearing will be tricky in that Ms. Yellen must tread a line between easy money as economic stimulus and tough regulation to crack down on the distortions brought about excess liquidity. Success here would have her being viewed as a monetary dove by Democrats and a regulatory hawk by Republicans.
Assuming that her answers are satisfactory to both sides, it would be valuable for both the Federal Reserve and for the nation for Ms. Yellen to receive strong bipartisan support from Congress. This is because an overwhelming confirmation vote in her favor would indicate Congressional support for her independence and help undo some of the damage from President Obama’s action in needlessly politicizing the Fed through a flawed nomination process.
This administration is notoriously inept in its dealings with Congress. Even so, the confirmation process should end up with Ms. Yellen taking over as Fed chief when Mr. Bernanke steps down in January 2014. As a nation, we will have been fortunate to have benefited from the Fed chairman’s extraordinary efforts over his eight years in charge of the Fed and further privileged to have a worthy successor in Janet Yellen.
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