El-Erian Gives the Fed The Disney’s Frozen Treatment

After many decades of Disney movies, we have been conditioned to expect princesses to fall in love quickly with their charming princes and “live happily ever after.” And when there are challenges or obstacles (mostly in the more recent movies), these are quickly overcome (and with humour).

Similarly, for many years market participants have been richly rewarded for falling in love – quickly and decisively – with the new policy measures adopted by America’s Federal Reserve. Indeed, the romance has overwhelmingly followed the Disney script. Yes, there may have been some bumps along the way, but they have been overcome quickly. And the romance has resulted in both parties living happily: the Fed feels better positioned to pursue its dual mandate of high employment and stable inflation, while investors feel that they have the opportunity for sizeable financial rewards.

This relationship has been so comfortable that market participants have adopted the mantra “Never fight the Fed” – and for good reason. The Fed is the world’s most powerful central bank. It owns the printing press that produces the world’s main reserve currency. It enjoys a significant amount of political independence. And it has not been shy about using its considerable operational autonomy.

Market participants also know that the Fed needs them to leverage its policy influence and deliver on its mandate, which, in recent years, has rightly been broadened in practice to incorporate the goal of financial stability. To this end, the Fed has become much more “transparent” with markets in the last few years, sharing more readily the minutes and transcripts of its policy discussions. The Chair of the Federal Reserve Board has even taken to holding periodic press conferences that are closely watched on trading floors around the world.

via The Guardian

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