Gold retreated into the recent range amid the latest bout of speculation as to who will succeed Janet Yellen as Fed chair. Bloomberg reported that Stanford economist John Taylor impressed President Trump in a recent interview for the position.
If Taylor gets the nod, there is concern that he would attempt to implement his Taylor rule. That prompted rates and the dollar to jump today, putting gold under pressure. Stocks retreated intraday, but not before the DJIA set a new record high above 23,000.
The Taylor rule presently indicates that rates are far too low. While Taylor has signaled flexibility as to some of the inputs into his formula, it still suggests the potential for an acceleration of the present tightening cycle. That would of course be contingent on Taylor getting buy-in from other members of the FOMC.
However, given that President Trump’s economic agenda is premised on tax cut, borrow and spend fiscal policies, it would seem that tighter monetary policy would pose real problems. With a national debt already in excess of $20 trillion and headed higher, every uptick in interest rates makes servicing of that debt increasingly difficult.
Higher rates — or a wider differential with our trading partners — would cause the dollar to rise. President Trump has made it very clear throughout his first year in office that he is not a fan of a strong dollar. “Lots of bad things happen with a strong dollar,” said the President. He has also said that he “likes a low interest rate policy.”
That all seems incongruous with appointing a hawkish Fed chair. So, consider me a skeptic that Taylor is the latest front-runner for the position.
I would also point out that the Taylor rule was devised in the early 1990s. So much has changed in the past 25-years, one might reasonably assume that models of that era no longer reflect the present realities of markets and human behaviors. The Phillips curve is another glaring example, which attempts to show that unemployment and inflation have a stable inverse relationship.
Jim Rickards has consistently preached that the Fed is getting policy wrong because they continue to rely on antiquated models.
Enacting monetary policy based on assumptions that these models are merely lagging, that the current conditions are “transitory,” may in fact be a recipe for disaster. I maintain that the main motivation for gradual rate hikes at the Yellen Fed is to give them enough clearance above the zero-bound to allow cuts when the economy eventually falls into recession.