How the next president will change the Fed
The winner of this November's election is likely to fill at least 4 of 7 seats on the Fed Board of Governors upon taking office. Here's how those picks could affect the economy.
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| Experts think that no matter who wins the White House in November, the new president's appointees to the Federal Reserve's Board of Governors will likely be tougher regulators. |
NEW YORK (CNNMoney.com) -- The next president is likely to have an unprecedented opportunity to name a majority of the Federal Reserve's Board of Governors immediately after being sworn into office.
These will be important decisions, given the battered state of the U.S. economy. It's even more critical considering that the central bank will probably assume more regulatory power over the nation's financial sector in the next few years.
"Who wins the election could [make] a significant difference," said Jaret Seiberg, an analyst with the Stanford Group, a Washington policy research firm. "You just need one governor who feels strongly on a regulatory issue like community reinvestment or fair lending practices and suddenly it's going to get a lot more attention."
The new president is expected to have four vacancies to fill upon taking office. Gov. Frederick Mishkin announced on May 28 that he would leave the board at the end of the summer. Two other Fed governor positions have been open since last year and Gov. Randall Kroszner has remained in his seat even though his term expired Jan. 31.
But no new members are likely to join the Fed this year since Senate Banking Chairman Chris Dodd, D-Conn., has not allowed a vote on confirmation for a new term for Kroszner or for the two nominees that President Bush has made to fill the other vacancies.
So how exactly would a Fed made up of appointees selected by presumptive Republican nominee John McCain differ from a central bank handpicked by likely Democratic nominee Barack Obama or his challenger Hillary Clinton?
Economic advisors from the campaigns of the two likely nominees wouldn't comment when asked about the Fed. But the candidates themselves have talked of a different regulatory philosophy for banks and brokerages.
In his first major speech on the housing crisis in March, McCain said he believed one of the solutions for the credit crunch was to encourage "increased capital in financial institutions by removing regulatory, accounting and tax impediments to raising capital."
Meanwhile, Obama has spoken about the failures of regulatory oversight as a major cause of the housing and mortgage meltdown. "I'll get tough on enforcement, raise the penalties on lenders who break the rules," he said in a speech in North Las Vegas in late May.
Clinton has also called for greater regulation of mortgage brokers and lenders, including new criminal penalties on unscrupulous lenders as well as a freeze on mortgage foreclosures. Her campaign was unavailable for comment for this story.
But despite the difference in campaign rhetoric, some experts are not that sure that Obama would appoint significantly more activist Fed members than McCain.
"They all seem to, in the end, nominate more or less well credentialed establishmentarians," said Jim Grant of Grant's Interest Rate Observer.
"I don't see McCain nominating a gold standard Libertarian. I don't see Obama re-instituting Paul Volcker's regime," Grant added, referring to the inflation-fighting Federal Reserve chairman from the early-mid 1980s.
And there is growing agreement in Washington among even Republicans, such as current Treasury Secretary Hank Paulson, that the Fed will need new regulatory powers going forward. The Fed will probably take a much more active role in overseeing Wall Street investment banks and other financial firms that have previously escaped its scrutiny.
"I think we're going to move in that direction no matter who is elected," said Lyle Gramley, a former Fed governor appointed in the final year of the Carter administration.
So a tougher Fed may wind up being in the cards regardless of this November's outcome. But experts say it is harder to figure out how an Obama-Fed and McCain-Fed might differ on interest rate policy.
For most Americans, the biggest role the Fed plays in their lives is by setting a key short-term rate that impacts how much interest consumers and businesses pay on various types of loans.
If you believe conventional political wisdom, you might think that Obama would be more likely than McCain to name appointees that would favor cutting interest rates as a way of warding off rising unemployment.
But one risk of lower interest rates is a weaker dollar and higher commodity prices. And ignoring inflation could be a huge political mistake. Just ask former President Jimmy Carter.
"What happened with Carter is proof of how you destroy your presidency by not appointing people who are concerned about inflation," said Peter Wallison a fellow with the American Enterprise Institute, a Washington think tank.
President Carter, faced with record high inflation, eventually appointed Volcker as Fed chairman in 1979. Volcker was reappointed by President Reagan and during his eight-year tenure, the Fed raised its benchmark interest rate to record high levels to bring prices back under control.
This is worth noting since Volcker was an early backer of Obama in this year's presidential race.
Still, most Fed watchers agree that any new Fed appointees are far more likely to take a lead on interest rate decisions from Fed chairman Ben Bernanke and not the president who named them. And typically, rate decisions are influenced far more by ever-changing economic conditions than by politics.
"You tell me what will happen to the economy in January," said Grant when asked what he expected from the new Fed. "I don't know what's going to happen to the economy tomorrow."
Chairman Bernanke is due to keep his job at the head of the Fed through Jan. 31, 2010, a year into the new president's term.
He won wide bipartisan praise on Capitol Hill, as well as on Wall Street, for the Fed's intervention in the collapse of Bear Stearns in March. His current approval ratings inside the Washington beltway could lead a new president to turn to him for advice on filling Fed vacancies, according to experts.
But that praise could be a distant memory by 2010, if not on inauguration day, if the economy continues to struggle.
"The better the economy is doing, the more housing has recovered, the more power and influence Bernanke will have," said Seiberg. 
