We argue that adopting a more rule-based approach by the Fed is actually more probable, especially given the high odds of John Taylor being nominated to the Fed’s Board of Governors. He is an opponent of granting policymakers broad discretion, arguing that monetary policymakers should stick to clear rules, such as the Taylor Rule. We will discuss Taylor’s model in more detail in the future edition of the Market Overview. Here, we would like to point out that rules-based policymaking would increase the transparency and predictability of central banks. It goes without saying that lower uncertainty would be negative for the safe-haven assets, such as gold.
Moreover, as one can see in the chart below, introducing a sound rule-based approach would increase the economic stability – in the past, discretionary Fed held interest rates too low for too long, causing asset bubbles. Remember the financial crisis which burst forth in 2008 and plunged the whole world into a great recession? The chart below shows that if the central bank followed the Taylor rule in the 2000s, the interest rates would have been higher, which would have prevented or at least limited the irrational exuberance which resulted in the housing crisis.
Charts shows actual Federal Funds Rate (green line) and Taylor Rule prescription (red line) from 1960 to 2017.
Again, more hawkish central banks, higher interest rates and reduced financial imbalances resulting from adopting a Taylor-like monetary rule would be fundamentally negative for the yellow metal, which shines during the period of ultra-low interest rates (such as ZIRP) and financial crises.