When Alan Greenspan left the Fed chairmanship, many wondered what would happen in markets. When Jean-Claude Trichet took over at the ECB and Toshihiko Fukui at the BOJ, policymakers – and others - wondered whether they would have to act “tough” to establish their credibility. Central bank governors are thought to matter a lot to policy and to markets, but few have seriously looked at the evidence on how much they matter – and what transitions of central bank governors really mean.
In a new paper, “Do markets care who chairs the central bank?”, Kenneth Kuttner of Oberlin College and Adam Posen of the Peterson Institute for International Economics discuss exactly these questions, and some intriguing research on central bank policymaking.
For their research, the authors created a database of central bank governor transitions for all the major economies and emerging markets since the 1970s; then they studied how markets responded to announcements of new central bank governors.
The evidence, they say, is clear:
“Foreign exchange and bond markets do distinguish between newsworthy appointments (those where the successor was not known in advance) and those that do not represent news”. The authors found that these markets do move significantly in response to newsworthy appointments, “but in line with their assessments of the conservatism of the individual governor versus his predecessor, not automatically down”.
“Thus,” say Kuttner and Posen, “there is NO evidence of any generic tendency for governors to be thought weak until proven tough, no money to be paid from betting on such doubts, and no need for governors to diverge from normal stabilisation policies to establish their counter-inflationary credibility upfront.”
The Federal Reserve, however is a slightly different case, they say. “There is strong evidence that transitions between Fed chairmen cause particularly sizeable movements in markets, both up and down. This is consistent with the view that the lack of institutional discipline on the Fed leads to excessive personalisation of US monetary policy in the individual Fed chairmen, in comparison to other central banks.”
Interestingly, this tendency to personalisation and the market volatility that could result is something that Ben Bernanke, current Fed chairman, Frederic Mishkin, a current Fed board of governors member and Posen warned about seven years ago, in a Wall Street Journal article prompted by Alan Greenspan’s reappointment in January 2000.