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Best of 2013: Janet Yellen will keep Fed on steady course

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Finance and Banking,Joseph Lawler,Federal Reserve,Ben Bernanke,Janet Yellen,Larry Summers,Best of 2013

(Editor's Note: As the end of 2013 approaches, the Washington Examiner is shining a spotlight on its top stories of the year. Today, it's economics writer Joseph Lawler on  Federal Reserve Vice Chair Janet Yellen, who will take over for Ben Bernanke after he steps down in January. This story first ran on Nov. 14 and can be found in its original form here.)

As a star economist and vice chairman of the Federal Reserve since 2010, Janet Yellen had a compelling claim to succeed Ben Bernanke as Fed chairman. But it was political machinations that led to her nomination for the top job. Instead of being favored for her record, she was promoted by supporters because she was the anti-Summers, an alternative to front-runner Larry Summers, the controversial Harvard professor who was President Obama's personal favorite.

Where he was the insider —the man at the center of the Wall Street-Washington nexus and the face of the post-Clinton Democratic establishment — Yellen was seen as the conscience candidate for liberals, a champion of workers and consumers, and an aggressive regulator of too-big-to-fail banks. Congressional progressives, academic economists and outside liberal groups pre-emptively endorsed her in an effort to block Summers.

The 67-year-old Yellen faces a Senate Banking Committee hearing Nov. 14. She is expected to win easy approval from the panel and then be confirmed by the Senate despite threats by some Republicans to hold up the vote over unrelated disputes with the president.

If all goes according to plan, she will take over the Fed at a time of major transition for the central bank. When Bernanke steps down as chairman in January, he will leave it to his successor to wind down the unprecedented stimulus programs he has established, and to finish writing the financial regulations he helped push through Congress in the wake of the financial crisis.

For an outsider, it would be a significant opportunity to steer the 100-year-old U.S. central bank in a new direction. Not so for Yellen. As a close ally of Bernanke, she helped chart the Fed’s current course and doesn’t have any major changes in store for her employer.

'The next financial crisis will be something completely different. Will we have the ability to spot it?'
 

She is “the candidate of continuity,” said Joseph Gagnon, an economist at the Peterson Institute for International Economics who worked with Yellen at the Fed and at Berkeley’s Haas School of Business. “A lot of her fingerprints are on the policies we’re seeing now.” Those include the Fed’s monthly bond-buying program and its strategy of guaranteeing record-low interest rates into the future.

A Brooklyn native, Yellen seemed destined to become the first female head of the Fed. People who studied with her in graduate school at Yale or worked with her later said Yellen has traits well-suited to a highly analytical profession. She is known to be meticulous, careful and prepared almost to a fault. Unlike Bernanke, who is at ease getting into back-and-forth exchanges with the media or Congress, Yellen prefers to speak from a prepared text.

While helping to teach a theory course under famous Yale professor and Nobel laureate James Tobin, Yellen took such careful notes that Tobin, who preferred to have students listen rather than write during class, made them the official class notes and distributed them to students.

In choosing to research macroeconomics, Yellen set herself apart from most female economists, said Claudia Goldin, a Harvard labor economist. Women tend to favor “fields that are more people-oriented,” such as health or education economics, rather than theory, Goldin explained. But Yellen, who Goldin said “put a human face” on the cost of economic downturns, chose to concentrate on unemployment, money and government interventions into the economy.

Unlike her predecessors, Yellen has had a full career in central banking. Even during stints in academia over the last two decades, her work has focused mainly on monetary policy. In particular, she has identified ways in which accounting for features of the labor market, such as fairness or workers’ motivations, can help explain the existence of involuntary unemployment — and, consequently, provide a justification for monetary stimulus in reducing unemployment during a recession.

Yellen’s first brush with central banking came in the late 1970s, when she took a job as a researcher at the Fed after teaching at Harvard. In the cafeteria there, she met her husband and future frequent co-author, the Nobel Prize-winning economist George Akerlof, now 73. (Their son Robert is also an economist, at the University of Warwick in England.) Her experience then provided her first “taste of public policy,” said Edwin Truman, a former Fed economist and a member of the recruiting team that hired Yellen. “I had to drag her into more public policy issues” rather than the research she preferred, Truman recalled.

By the 1990s, when she returned to the Fed as a member of its Board of Governors, Yellen was immersed in public policy. She would go on to serve in the Clinton White House as an economic adviser, and in 2004 she was elected president of the San Francisco Fed.

Her long involvement with Bernanke’s Fed means that on the big questions that will confront the next chairman, Yellen will not break markedly from the current chairman. Those who think otherwise, a group that includes idealists and conspiracy theorists alike, are in for a surprise.

Investors who fear that a Yellen chairmanship would risk a return to 1970s levels of inflation are wrong, American Enterprise Institute economist Stephen Oliner told the Washington Examiner. Even though she has supported the Fed’s efforts to ease monetary conditions and has spoken in favor of stimulus spending, she “really is not soft on inflation,” said Oliner, who worked at the Board of Governors during Yellen’s vice chairmanship.

Indeed, Yellen proved in September 1996 that she can be an inflation hawk. Before that month’s meeting of the Fed’s monetary committee, she and another governor, Laurence Meyer, approached then-chairman Alan Greenspan and advised him to move to raise interest rates to forestall an unacceptable rise in prices. Although Greenspan declined to follow her recommendation, Meyer wrote in 2010 that the episode revealed that Yellen does not comfortably fit into the usual Fed taxonomy of “hawks” and “doves” when it comes to inflation, and that she “would quickly switch camps” to rejoin the hawks if inflation started to rise.

On the other hand, those on the Left who regard Yellen as the anti-Summers, a central banker for populists, are dreaming. Although Yellen has experience as a regulator from her time at the San Francisco regional bank, which is charged with examining chartered banks its district, she won’t be a regulatory crusader.

“I’ve never seen anything in her background to suggest she’ll be the second coming of Elizabeth Warren,” said Todd Zywicki, a regulatory expert at the George Mason University School of Law, referring to the former Harvard law professor who rode her strident criticisms of big banks and bailouts to hero status among liberals and a U.S. Senate seat.

The Fed chairman, one of a host of federal financial regulators, typically is willing to cede some authority on regulatory affairs to agencies within the administrative branch to maintain independence on monetary affairs, noted Zywicki. Yellen, whose expertise is in monetary policy, will likely prove no different. “It may be that people trying to stop Larry Summers grasped on to her for their hopes and dreams that may not be satisfied,” he mused.

Nevertheless, said Camden Fine, president of the Independent Community Bankers of America, Yellen is “light years ahead of where Summers would have been.”

She has been closely involved with the Fed’s oversight of finance, and has embraced its new post-Dodd-Frank role in monitoring the system as a whole, rather than on a case-by-case basis. She has said that, in some circumstances, the Fed could use its monetary tools to curb systemwide risks, perhaps by raising interest rates to deflate an asset bubble before it bursts.

Such a move would require the ability to anticipate crises. But her track record in doing so is mixed.

Yellen was the first Fed official to note that housing prices had risen out of line with the fundamentals, saying in a 2005 speech that there was a “bubble element” to the housing market. She warned in late 2007 that complex financial instruments might hide and understate the risks involved with subprime mortgages.

Nonetheless, she didn’t foresee those risks leading to a full-blown financial crisis, nor did she see the broader recession coming until it had already begun.

In a 2010 interview with the Financial Crisis Inquiry Commission, Yellen explained that she thought that any correction to housing market prices would be like the bursting of the dotcom bubble — the fallout could be contained without it leading to a deep recession. But, she apologized, “did I in any way see or contemplate the massive meltdown we had because of securitization, the credit rating agencies, the growth in leverage in the shadow banking system? I didn’t. I’m sorry, I wish I had, but I didn’t.”

And, Yellen warned, “The next financial crisis will be something completely different. Will we have the ability to spot it? ... This is really hard.”

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