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Fed chair pick: ‘The equity market is telling you: “Mission accomplished,"' Vincent Reinhart says

Dreyfus and Mellon Chief Economist Vincent Reinhart, a former director of the Federal Reserve Board’s Division of Monetary Affairs, joins Yahoo Finance to discuss what's next now that Fed Chair Jerome Powell has been re-nominated.

Video Transcript

- Let's bring in Vincent Reinhart. And he's the chief economist at Dreyfus and Mellon, also the former director of the Fed Board's Division of Monetary Affairs. And Vincent, it's great to see you. You're the perfect person to talk to on a day like today. First, just give us your take on the appointment of-- or the reappointment, I should say-- of Jay Powell. What do you think of the decision?

VINCENT REINHART: I think the equity market is telling you mission accomplished. They went to the safe pair of hands. A new chair would have to demonstrate their resolve. We know what we have with Jay Powell, and market participants, by and large, like that.

ADAM SHAPIRO: Hey, Vincent. Adam Shapiro here.


ADAM SHAPIRO: As they go forward, will the president-- does it make sense for the president to try and nominate other members to the Board of Governors who might appease people like Senator Warren and the progressives, who wanted someone other than Powell?

VINCENT REINHART: So market participants are always kind of needy. They believe that politicians think that the markets they care about are really important to them, as well. That's not always the case. Political decisions like this are a competition between affinity, you'd like someone in your own party, and convenience, what can you get the Senate to do for you and will markets receive it well.

So you have to view the Powell-Brainard picks as part, as you correctly stated, a bigger package. The White House is going to have three new governors to appoint. And presumably, that's going to tilt more progressive. So bottom line, six months from now, the group of people that Chair Powell has to wrangle to make decisions is going to be more dovish than it is today.

- And I wonder, sir, how much does, you know, Chair Powell's job change now, compared to the first four years, going forward for the next term? There's a drastic sort of change between what he has been doing and what he will be doing. And how much does the Fed need to worry about wage growth?

VINCENT REINHART: Oh, so you're right in that the next four years are a lot different than the last four years. Chair Powell was tested by a generational shock, and he responded by a generational policy move toward full accommodation, both in terms of putting the rate down to zero and significantly increasing the balance sheet. The challenge for the next four years is reining in that accommodation to deal with an inflation problem.

What's happened is aggregate demand has picked up in response to all the policy stimulus, both monetary and fiscal, and the reopening of the economy, but aggregate supply has been much more slower on the uptake. Workers haven't come back into the labor force. There's lots of supply chain disruptions. And as a result, both costs and prices are going up a lot faster.

Chair Powell is going to have to turn the boat. Some of it is already preset. They've announced the slowing of asset purchases, already underway at the end of this month. What that implies is, by the middle of next year, the Federal Reserve will be out of the game of adding policy accommodation through additional purchases of treasury security-- securities and mortgage-backed securities.

But still, by the time they're done with the taper, they'll add almost a half trillion more to the balance sheet. That sets up the ability to start raising rates in the second half of next year, actually beginning to remove that policy accommodation. And that's going to be a very difficult tightwire for Jay Powell to walk.

ADAM SHAPIRO: Vincent, when you said generational shock, I was thinking these are supposed to be once-in-a-lifetime events, but then I thought September 2001, then we had 2008, and now we've had the pandemic. So these crises seem to happen, unfortunately, more than once in our lifetime. If there were to be another does the Fed still have the powder and the ammunition to get us through the next crises, should another generational shock hit us in the next 10 to 15 years?

VINCENT REINHART: Yeah, you're right, Adam, those 100-year storms are coming with a lot greater frequency than once every 100 years. And that's got to be a concern. In some sense, the formative experience of this generation of central bankers is worried about the zero lower bound. There's a limit to how much accommodation you can put in place by your traditional means, i.e. pulling your policy rate down to zero. They've done that. What do you do next? It's unconventional policy.

So what's in the toolbox? Convincing people that rates would stay low for a very long time, and then buying stuff. And Chair Powell has shown himself willing to buy a lot of stuff, in the sense of both the traditional treasury securities and mortgage-backed securities. But remember, last March was a-- in March of 2020 was really a floodgate of different facilities to buy assets that you don't normally think of the Federal Reserve as holding. So what would they do in the unfortunate event of another adverse shock? They'd do what they did back in March of 2020, and even more so.

- Vincent, one of the biggest challenges facing Fed Chair Jay Powell, at least over the next couple of months, of course, is going to be resolving, well, inflation, and then also a lot of that because of the supply chain issues that we are seeing. I think investors are still trying to figure out whether or not we have seen a peak when it comes to the supply chain issues. Do you think that's the case?

VINCENT REINHART: No, unfortunately not. I think transitory is a dirty word. The fact is that the Federal Reserve banked that the increases in prices would be narrow and temporary. They're not narrow. They're not temporary. Those problems in labor force participation and global supply chains have put upward impetus to a lot of prices, including prices of goods and services that really move very slowly. And once they're in motion, they stay in-- a body in motion stays in motion.

Even more worrying for the Federal Reserve is it's beginning to get built into household and investors' inflation expectations. That's going to be the tough nut for them to crack. How do they convince everyone out there that they are committed to price stability, committed to their 2% inflation goal, but at the same time not scare them into thinking that they will tighten too much too soon? That's the tightrope.

- Vincent Reinhart, always great to hear from you. Chief economist at Dreyfus and Mellon, also former director of the Fed Board's Division of Monetary Affairs.