How Will the Markets React to the Fed Appointment Process?

With all the current attention to the reappointment vote on Fed Chairman Bernanke, we would direct people to our recent paper, "Do Markets Care Who Chairs the Central Bank?", forthcoming in next month's issue of the Journal of Money, Credit, and Banking. In it, we make the first ever assessment of the effects of central bank governor appointments on financial-market expectations of monetary policy. To measure these effects, we assemble a new dataset of appointment announcements from 15 countries and conduct an event-study analysis on exchange rates, bond yields, and stock prices.

Our main findings are four-fold. First, exchange rates and bond yields display a statistically significant response to the announcement of a new governor, especially when the appointee’s identity was not anticipated in advance. Second, markets do not react when the governor's is known in advance, as in a fully expected reappointment or pre-announced succession, consistent with efficient use of news. Third, the market reactions are especially pronounced for central banks lacking either independence or a clear nominal anchor. Fourth, new central bank governors are not perceived to lack credibility generically. There is no tendency for surprise announcements of a new central bank governor to be associated with declines in bond prices or with currency depreciations on average - what matters is market's perceptions of the specific person appointed.

In our sample, new Federal Reserve Chairman appointments move markets the most by far on average of any economy examined. This pattern is surprising given the enormous depth and liquidity of dollar and Treasury markets, as well as the Fed's institutional credibility. These economically and statistically significant swings of bond and foreign exchange markets in response to Fed Chairman appointments, however, are consistent with our interpretation that central banks lacking a framework that depersonalizes policy are more subject to market responses - an argument made by Bernanke himself in an op-ed¹ joint with one of us (Posen) and Frederic S. Mishkin at the time of Greenspan's reappointment in 2000 in favor of inflation targeting to discipline central bank discretion and enhance long-run stability.

Note

1. Bernanke, Ben S., Frederic S. Mishkin, and Adam S. Posen, "What Happens When Greenspan is Gone?" Wall Street Journal, January 5, 2000.