Federal Reserve Board Chair Janet Yellen

Yellen Confirmed, Economists See QE Ending and Factors Influencing the New Fed Chair

Econintersect:  By a vote of 56-26 the U.S. Senate has confirmed Janet Yellen’s appointment to be the 15th chairman of the U.S. Federal Reserve Bank and the first woman to hold that job.  The vote was relatively bipartisan with 11 Republicans joining 45 Democrats in the affirmative vote.  All 26 no votes were Republican.  Not voting were 9 Democrats, 7 Republicans and both Independents.  The vote tally can be reviewed at C-Span.  Bad weather may have been the reason for the high number of senators not voting.

The Washington Post summarized the situation as Yellin assumes the role of guiding U.S. monetary policy:

Yellen will inherit an economy that is no longer in free fall but is far from fully healed. Unemployment remains stubbornly high while inflation is perplexingly low, and government spending cuts have undermined the recovery’s momentum. Stock markets have soared to record highs, but economic growth has been so anemic that many Americans believe the nation is still in recession.

Bloomberg reports that economists expect Yellin to continue to taper (reduce) bond buying in a systematic way:

The Federal Open Market Committee on Dec. 18 tapered monthly bond purchases to $75 billion from $85 billion, saying in a statement that “labor market conditions have shown further improvement.”

The committee, scheduled to meet Jan. 28-29, probably will cut its purchases in $10 billion increments over the next seven meetings before ending them in December, according to a Bloomberg News survey of economists after the FOMC announced the reduction.

An interesting aspect that Yellen brings to the nation’s top banking job is her husband, George Ackerlof, who won the Nobel Prize in Economics in 2001.  The Nobel citation described Ackerlof’s contribution to economics of information:

Contribution:  Studied markets where sellers of products have more information than buyers about product quality. He showed that low-quality products may squeeze out high-quality products in such markets, and that prices of high-quality products may suffer as a result.

His most famous contribution in this area was a 1970 paper “The Market for Lemons: Quality Uncertainty and the Market Mechanism” which characterized how asymmetry of information causes severe market distortions.  Most recently this was displayed by the collapse of finacial markets in 2008, in large part a result of the creators and sellers of collateralized debt obligations(CDOs) and various derivatives introduced to financial markets having much more knowledge of those securities than did the buyers.

But, even more important for the situations through which the country has come in the last 20 years, Ackerlof’s paper in 1993, coauthored with Paul Romer, is very noteworthy.  “Looting: The Economic Underworld  of Bankruptcy for Profit” describes the processes followed by many executives to gain personal wealth while weakening the corporations they lead.  A quote:

“Bankruptcy for profit will occur if poor accounting, lax regulation, or low penalties for abuse give owners an incentive to pay themselves more than their firms are worth and then default on their debt obligations. Bankruptcy for profit occurs most commonly when a government guarantees a firm’s debt obligations.”

Both Yves Smith and William K. Black repeatedly have cited repeatedly this paper in their discussions of the sub-prime and banking crisis.  Other economists have rejected the Ackerlof and Romer theory as pertaining to the Great Financial Crisis.   It is likely that Janet Yellen will not be dismissive of this work.

Another Ackerlof factor that may influence Yellen is the 1986 book they co-authored “Efficiency Wage Models of the Labor Market“.  The thesis of the book is that paying wages above the market clearing level actually creates more competition for jobs and increases productivity.  This was used to explain how unemployment could often rise above the level that an equilibrium model for supply and demand would predict.

Janet Yellen brings to her new position many years of experience in the Federal Reserve system, perhaps more than any other Fed chair before her.  But she also brings George Ackerlof and it remains to be seen how that will factor into how she addresses monetary policy.

John Lounsbury

Sources:

• Senate Vote on the Nomination of Janet Yellen (C-Span, 06 January 2014)

• Janet Yellen confirmed as Federal Reserve chairman (Ylan Q. Mui, The Washington Post, 06 January 2014)

• Yellen Confirmed by U.S. Senate to Become Fed Chairman (Kathleen Hunter, Bloomberg, 06 January 2014)

• George Ackerlof – Facts (Nobel Prize.org)

• George Ackerlof (Wikipedia)

• The Market for Lemons: Quality Uncertainty and the Market Mechanism (Wikipedia)

• Looting: The Economic Underworld of Bankruptcy for Profit (George Ackerlof and Paul Romer, Brookings Papers on Economic Activity, 2:1993, Stern.nyu.edu)