Global Macro Perspectives August 2017

ARE MARKETS READY FOR A POST-YELLEN FED? Recent news articles suggest that the Trump administration is starting to consider a replacement for Fed Chair after her term expires. It’s part of a wave of potential turnover ahead for the institution’s leadership. What does that mean for the Fed and markets?

Speculation is beginning to build about what comes next for the US in a looming transition. Recent news articles have suggested that President Trump and his team are starting to consider their options for replacing Fed Chair Janet Yellen when her term as Chair expires in early 2018.

In reality, the transition at the Fed will go well beyond the Chair. Several members of the Fed’s Board of Governors have recently left—or may soon leave—the institution. There has also been significant turnover among the regional Fed presidents who serve on the Federal Open Market Committee (FOMC). By the end of 2018, it’s very possible, perhaps even likely, that the Eric Winograd majority of FOMC members will have little experience in their roles. US Economist Global Economic Research This sort of turnover isn’t necessarily unusual; in the past, there has been turnover on the Board whenever the Chair changes hands. Still, the stakes around this transition are particu- larly high. The Fed has become very important to financial markets over the course of the last decade—from QE 1 through the “taper tantrum” and now during the transition to interest-rate hikes and toward balance-sheet normalization.

How is this process likely to play out? Who is thought to be on the short list of candidates? How will turnover on the Board of Governors and among the regional Federal Reserve Banks affect policy? And what could this mean for financial markets? THE INS AND OUTS OF THE COMING TRANSITION IN REALITY, THE First, a few of the basics about the Fed and how this process typically works. The Board of Governors is the governing body of the US Federal Reserve System (Display 1, page 2). The TRANSITION AT THE FED Board has seven members, nominated by the President and approved by the Senate for WILL GO WELL BEYOND 14-year terms. The Chair of the Board is chosen by the President from among the various THE CHAIR. Board members, and is approved by the Senate for a four-year term.

The President can reappoint, or choose not to reappoint, a Chair when that four-year term expires. Yellen’s term as Fed Chair expires on February 3, 2018, although her term as Governor runs until 2024. In theory, Yellen could stay on the Board even if she isn’t DISPLAY 1 HOW THE US FEDERAL RESERVE IS STRUCTURED

FEDERAL RESERVE BOARD OF GOVERNORS The Board is an independent government agency that oversees the entire US Federal Reserve System.

Cair Vic Cair Gornor Gornor Gornor Gornor Gornor

FEDERAL RESERVE BANKS The 12 District banks are the operating arms of the Federal Reserve System. Each has its own president, who is appointed by the board of directors of the individual banks.

Boon N Yor Piadia Cand Ricond Aana Cicago S. Loi Minnaoi Kana Ci Daa San Francico

FEDERAL OPEN MARKET COMMITTEE (FOMC) The Committee is responsible for open market operations that support Fed policy. The Committee includes all members of the Board of Governors. The New York president is a permanent member and Vice Chair. Four seats are filled on a rotating basis by other Fed Bank presidents (current members shown).

Cair N Yor Gornor Gornor Minnaoi Gornor Gornor Piadia Gornor Gornor Cicago Daa

As of July 31, 2017 Source: US Federal Reserve and AB

2 reappointed as Chair. However, that scenario would be contrary to only Republican, which may enhance his appeal to the President and historical experience—we don’t expect that outcome. If Yellen is not ease his confirmation process. reappointed, she will almost certainly resign from the Board, too. Gary Cohn. News reports in July suggested that Cohn, currently There are currently three open seats on the Board of Governors, so director of the National Economic Council, is both leading the process there will be a transition in that part of the Fed’s leadership as well. to select the next Fed Chair and is himself the leading candidate. He One seat is likely to be filled by Randal Quarles; Trump nominated lacks Yellen’s academic gravitas, but is widely respected within Quarles to the Board in mid-July. If Quarles is confirmed by the financial markets for his stint as second-in-command at Goldman Senate, he’ll become the Vice Chair for Supervision, so he’s likely to Sachs. Of course, his previous tenure at Goldman Sachs may make play a central role in considering changes to US banking regulations, his confirmation process politically difficult, as could his lack of prior including Dodd-Frank. policymaking experience. Markets would likely take a positive view, though, largely because Cohn would be viewed as likely to advocate The new Board Chair has to come from the Board, so it’s likely that less regulation of the financials sector, given his Goldman experience. the Trump administration will leave at least one seat unfilled until the nomination of a new Chair. That way, Trump can simultaneously John Taylor. Taylor, a Stanford professor, has excellent academic nominate someone from outside the institution to serve on the Board credentials and is a well-respected thinker on monetary policy and as Chair. Alternatively, Yellen could make a commitment to resign, issues. In the past, he has espoused a preference for “rules-based” ceding her seat on the Board to the new Chair even if all the other policymaking over the more discretionary style historically favored by Board seats were taken. the Fed. He developed and proposed the , often used as a basic guideline for assessing the setting of monetary policy. Taylor In the past, nominations have typically been made several months would be a very popular candidate with the Republican Party’s before the expiration of the current Chair’s term. This timetable conservative wing, which has consistently chafed at the Fed’s more gives the Senate enough time to vote on the nomination. Yellen, for improvisational style and willingness to use its balance sheet to example, was nominated in early October 2013 and confirmed late support the economy. The impact of a Taylor candidacy on markets is in that year before taking the reins early in 2014. This approach also uncertain. He is a heavyweight economist, but also the candidate with minimizes the amount of time there will be essentially two Fed Chairs: the most potential to make dramatic changes within the Fed. That the current Chair and her successor. Based on this precedent, we sort of volatility could prove disruptive. expect the President to announce a decision on a nominee in the next few months. Kevin Warsh. As a Fed Board member during the global financial crisis, Warsh earned praise for his work as liaison between the Fed MEET THE NEW CHAIR: SOME LIKELY CANDIDATES and financial markets. Since leaving the Board, he has been a vocal Several prominent economic and political figures have been and public critic of the Fed’s efforts to support growth. He has a mentioned as potential successors to Yellen, each with a perceived limited background in economics compared with most of the other position on the policy spectrum (Display 2, page 4). It’s impossible candidates, and he isn’t perceived to be as much of a deep thinker on to know who the President will eventually choose—a dark-horse monetary policy issues. He is also the most partisan of the publicly candidate could certainly emerge. The list that follows is by no means discussed candidates. A Warsh appointment wouldn’t be welcomed comprehensive, but it does cover several of the candidates whose within the walls of the Fed, where he’s viewed with skepticism due to names have been commonly mentioned as potential Fed Chairs his light academic and professional resume relative to several of the starting in 2018. other candidates, as well as his public criticism of the institution he used to be part of. Janet Yellen. President Trump could simply choose to reappoint Yellen as Chair, as has generally been the case with past Fed THIS TIME, CHANGE IS DIFFERENT Chairs. This option might appeal to the President because the Recent transitions between Fed Chairs have generally taken economy and financial markets are both performing well, giving place without disruption. Both Bernanke and Yellen were former him incentive not to rock the boat. Trump was quite critical of the Governors and well-respected monetary economists when they Yellen Fed during his campaign, but he has been much more positive were nominated, and both generally pursued paths that maintained in his assessment of her tenure since he assumed office. In fact, continuity with policies already in place. in an interview earlier this year, Trump indicated that she might still be reappointed. Yellen’s academic and policy credentials are But both had an advantage that the next Chair may not. The potential unimpeachable, and the financial markets would likely be happy with turnover this time is much broader. this choice: markets prize stability, and also view Yellen as dovish on interest rates. In fact, the Fed’s Board of Governors is undergoing a massive transition (Display 3, page 6). Let’s take a look at the current . A current Governor, Powell would be a logical choice composition of the Board of Governors, along with a brief comment for Chair if the President wants to preserve continuity but also wants about how long each is likely to remain. to make his own nomination. Powell’s background includes both the Fed and the Executive Branch—he served as assistant secretary and Chair Janet Yellen will likely resign from the Board if she isn’t undersecretary of the Treasury under President George H. W. Bush. reappointed as Chair. This decision will likely be known later this year. Powell has served on the Board since 2012, and he’s currently its

ARE MARKETS READY FOR A POST-YELLEN FED? 3 DISPLAY 2 HAWK OR DOVE? FIVE COMMONLY MENTIONED FED CHAIR CANDIDATES

M

ANET YELLEN Her track record on rates suggests she’ll be cautious about hikes and will stick to a very gradual pace of balance-sheet reduction. She’s a strong advocate of discretionary policymaking.

EROME POWELL As a member of the current FOMC, Powell would be expected to continue the current trajectory. He’s perceived to have been more open to raising rates than Yellen during this cycle.

GARY COHN Cohn's policy preferences are almost entirely unknown. The market may view him as some- what dovish because of his financial market UNKNOWN background and association with Trump’s There’s certainly potential for preference for low rates. a dark-horse candidate to arrive on the scene. It’s impossible to know at this point what that candidate’s policy orientation will be.

OHN TAYLOR Taylor’s preference for rules-based policymaking would have led to higher interest rates much earlier in the postcrisis period—and still has hawkish implications at this point in the cycle.

KEVIN WARSH Critical of the Fed’s postcrisis policy, Warsh has argued against quantitative easing and in favor of higher rates and a lower inflation target. His critiques have been extremely hawkish.

M A

As of July 31, 2017 Source: AB

4 Vice Chair Stanley Fischer is serving a term as Board Governor that We believe that the potential for such significant turnover is partly expires in 2020, but his term as Vice Chair expires in June 2018, and the reason for the FOMC’s apparently strong desire to start reducing he’ll likely resign from the Board if he isn’t reappointed. its balance sheet. This will allow the current Committee to hand its successors a process that’s already in place and (ideally) running Governor Jerome Powell is the Board member most likely to remain smoothly, reducing the need for a newer group of policymakers to both during and after a transition in the Fed’s leadership. make major decisions immediately upon arrival.

Governor has a term that runs until early 2026, but Of course, the current FOMC wouldn’t shrink the balance sheet for there are persistent rumors that she would like to leave. Brainard may that reason only, but it does give them some additional incentive serve as an economic advisor and Treasury Secretary-in-waiting for to do so. In fact, this is partly why we have high conviction that a a Democratic presidential candidate in the 2020 elections, which ­balance-sheet reduction will begin by the end of the summer in would require her to step down. the US.

Randal Quarles was recently nominated by President Trump as Vice Balance-sheet reduction is part of a broader path of policy Chair for Supervision. normalization that will put a lot on the Fed’s plate during this period of transition. There are many critical policy decisions to be made, Vice Chair for Community Banking (Open Seat): There has been including the relationship between balance-sheet reduction and the little public discussion about whom the President might nominate. pace of interest-rate hikes. Many important decisions also loom with But it must be a community banker, so this seat is unlikely to be the respect to financials sector regulation: it will take a lot of political skill one Trump holds open for the next Chair. to navigate the priorities of the Trump administration and the existing General Member (Open Seat): There is still one general opening. It regulatory infrastructure—both domestically and internationally. has been rumored that President Trump will appoint Carnegie Mellon Then there’s the matter of how the Fed communicates—markets professor (and former Richmond Fed research director) Marvin tend to hang on its every word, and with so many new players, will the Goodfriend to the Board. However, the President would then need to Fed’s style and approach to communicating evolve? rely on Yellen to resign from the Board in order to have an open seat to nominate his new Chair. With the stakes so high, the identity of the new Fed Chair (or, if Yellen is renominated, the incumbent Chair) and the composition of the Based on this landscape, it seems entirely likely that, if the President Board of Governors will matter a lot to financial markets. Investors chooses not to reappoint Yellen as Chair but does fill the current and have come to rely on stability and predictability from the FOMC. If prospective vacancies, the Board will have six members with less that changes or is perceived to have changed, due either to new than one year’s experience by the end of 2018. policy preferences or inexperienced leadership, it could make capital There’s always turnover, especially around leadership transitions. markets more volatile in 2018 and beyond. But if the new Chair is a newcomer—not someone with significant institutional history—the degree of turnover will make his or her job that much more challenging.

TURNOVER AT THE REGIONAL FED LEVEL, TOO The turnover isn’t limited to the Fed’s senior decision makers, which could compound the challenges if the new-look Board is short on experience. There’s been significant change among regional District Banks, too. The presidents of the Atlanta, Philadelphia, Minneapolis and Dallas Federal Reserve Banks each have been in their roles for less than two years, and the Richmond Fed is in the process of selecting a new president.

The only current District presidents who served during or in the immediate aftermath of the financial crisis are Eric Rosengren (Boston), William Dudley (New York), Charles Evans (Chicago) and James Bullard (St. Louis). And given their relatively lengthy tenures, it’s possible that one or more from this list could also choose to retire in the near future, further reducing the level of experience on the FOMC.

STAKES ARE HIGH FOR POLICY AND THE MARKETS All of these moving parts add up to a sizable wave of transition set to sweep through the Fed’s leadership over the next few years. With that change will come different perspectives and policy philosophies. The ultimate representation of those philosophies is difficult to forecast right now, given the large number of potential leadership changes.

ARE MARKETS READY FOR A POST-YELLEN FED? 5 DISPLAY 3 MOVING PIECES: THE FED BOARD OF GOVERNORS IN TRANSITION (CURRENT MEMBERS & STATUS)

ANET YELLEN STANLEY FISCHER CIR IC CIR Reappointment decision ice Chair term expires June expected later in . ikel . ikel to resign if not to resign if not reappointed reappointed. as Chair.

LAEL BRAINARD EROME POWELL Term runs into ost likel to sta through ut could resign to take a leadership transition. a role with next emocratic candidate.

VACANT VACANT Randal uarles recentl ice Chair for communit nominated as ice Chair for anking little pulic upervision. discussion aout possile nominees.

VACANT ominee rumored ut Yellen would have to resign for Trump to have another open seat for a new Chair.

As of July 31, 2017 Source: AB

6 ARE MARKETS READY FOR A POST-YELLEN FED? 7 NEW YORK TORONTO HONG KONG 1345 Avenue of the Americas Brookfield Place Suite 3401, 34/F New York, NY 10105 161 Bay Street, 27th Floor One International Finance Centre (212) 969 1000 Toronto, Ontario M5J 2S1 1 Harbour View Street, Central (416) 572 2534 Hong Kong LONDON +852 2918 7888 50 Berkeley Street, London W1J 8HA TOKYO United Kingdom Marunouchi Trust Tower Main 17F SINGAPORE +44 20 7470 0100 1-8-3 Marunouchi, Chiyoda-ku One Raffles Quay Tokyo 100-0005, Japan 27-11 South Tower SYDNEY +81 3 5962 9000 Singapore 048583 Level 32, Aurora Place +65 6230 4600 88 Phillip Street Sydney NSW 2000, Australia +61 2 9255 1200

Past performance, historical and current analyses, and expectations do not guarantee future results. There can be no assurance that any investment objectives will be achieved. Note to All Readers: The information contained here reflects the views of AllianceBernstein L.P. or its affiliates and sources it believes are reliable as of the date of this publication. AllianceBernstein L.P. makes no representations or warranties concerning the accuracy of any data. There is no guarantee that any projection, forecast or opinion in this material will be realized. Past performance does not guarantee future results. The views expressed here may change at any time after the date of this publication. This document is for informational purposes only and does not constitute investment advice. AllianceBernstein L.P. does not provide tax, legal or accounting advice. It does not take an investor’s personal investment objectives or financial situation into account; investors should discuss their individual circumstances with appropriate professionals before making any decisions. This information should not be construed as sales or marketing material or an offer or solicitation for the purchase or sale of any financial instrument, product or service sponsored by AB or its affiliates.Note to Canadian Readers: This publication has been provided by AB Canada, Inc. or Sanford C. Bernstein & Co., LLC and is for general information purposes only. It should not be construed as advice as to the investing in or the buying or selling of securities, or as an activity in furtherance of a trade in securities. Neither AB Institutional Investments nor AB L.P. provides investment advice or deals in securities in Canada. Note to European Readers: This information is issued by AllianceBernstein Limited, a company registered in England under company number 2551144. AllianceBernstein Limited is authorised and regulated in the UK by the Financial Conduct Authority (FCA–Reference Number 147956). Note to Readers in Japan: This document has been provided by AllianceBernstein Japan Ltd. AllianceBernstein Japan Ltd. is a registered investment-management company (registration number: Kanto Local Financial Bureau no. 303). It is also a member of the Japan Investment Advisers Association; the Investment Trusts Association, Japan; the Japan Securities Dealers Association; and the Type II Financial Instruments Firms Association. The product/service may not be offered or sold in Japan; this document is not made to solicit investment. Note to Australian Readers: This document has been issued by AllianceBernstein Australia Limited (ABN 53 095 022 718 and AFSL 230698). Information in this document is intended only for persons who qualify as “wholesale clients,” as defined in the Corporations Act 2001 (Cth of Australia), and should not be construed as advice. Note to Singapore Readers: This document has been issued by AllianceBernstein (Singapore) Ltd. (“ABSL”, Company Registration No. 199703364C). ABSL is a holder of a Capital Markets Services Licence issued by the Monetary Authority of Singapore to conduct regulated activity in fund management and dealing in securities. AllianceBernstein (Luxembourg) S.à r.l. is the management company of the portfolio and has appointed ABSL as its agent for service of process and as its Singapore representative. This document has not been reviewed by the MAS. Note to Hong Kong Readers: This document is issued in Hong Kong by AllianceBernstein Hong Kong Limited (聯博香港有限公司), a licensed entity regulated by the Hong Kong Securities and Futures Commission. This document has not been reviewed by the Hong Kong Securities and Futures Commission. Note to Readers in Vietnam, the Philippines, Brunei, Thailand, Indonesia, China, Taiwan and India: This document is provided solely for the informational purposes of institutional investors and is not investment advice, nor is it intended to be an offer or solicitation, and does not pertain to the specific investment objectives, financial situation or particular needs of any person to whom it is sent. This document is not an advertisement and is not intended for public use or additional distribution. AB is not licensed to, and does not purport to, conduct any business or offer any services in any of the above countries. Note to Readers in Malaysia: Nothing in this document should be construed as an invitation or offer to subscribe to or purchase any securities, nor is it an offering of fund-management services, advice, analysis or a report concerning securities. AB is not licensed to, and does not purport to, conduct any business or offer any services in Malaysia. Without prejudice to the generality of the foregoing, AB does not hold a capital-markets services license under the Capital Markets & Services Act 2007 of Malaysia, and does not, nor does it purport to, deal in securities, trade in futures contracts, manage funds, offer corporate finance or investment advice, or provide financial-planning services in Malaysia. Important Note For UK And EU Readers: For Professional Client or Investment Professional use only. Not for inspection by distribution or quotation to, the general public. The [A/B] logo is a registered service mark of AllianceBernstein and AllianceBernstein® is a registered service mark used by permission of the owner, AllianceBernstein L.P. © 2017 AllianceBernstein L.P., 1345 Avenue of the Americas, New York, NY 10105

17-0728123517 ECO–7580–0817