The world hardly needs another theory of the Fed, especially so soon after its Jackson Hole symposium. But we have a theory, too, and who knows, ours could be as close to the bulls-eye as any of the others. Plus, our theory is easy to explain – it rests on the simple premise that decision makers worry mostly about their reputations. We’ll propose that reputational risks are the primary drivers of central bank policies, and then we’ll use that belief to predict a major policy shift.
Why are reputations so important? Cynics might say they determine how much central bankers get paid once they leave the FOMC. Ben Bernanke, for example, wouldn’t collect $250,000 speaking fees and plush consulting contracts if he hadn’t bolstered his reputation during the Global Financial Crisis. And that’s not all – the crisis also lifted Bernanke’s power and importance beyond what it would have otherwise been. By landing in the Fed chair at an opportune time, he profited immensely.
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But our theory doesn’t depend on that particular type of cynicism. We doubt that personal greed drives the Fed’s policy decisions. Whether they intend to cash their golden tickets or not (we’ll take the over on ‘intend to’), we view FOMC members as highly regarded folks who’d like to remain that way. They’ve reached a foothold at their profession’s highest mountain’s uppermost peak, from where the only direction is down. And remember – they didn’t arrive safely at their foothold by accident. If the president taps you for FOMC duty and sends you before Congress for approval, you’re already adept at protecting your reputation. You’ll probably do ‘whatever it takes’ to steer clear of any reputational damage that could arise in the future.
This post was published at FinancialSense on 09/07/2017.
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