I have read many of the pundits who claim they know what will happen with the markets once election results become clear today.
Frankly, I do not believe there will be any lasting major effect of these elections on the stock and bond markets. Besides the headline of who controls the Senate, nothing much will change.
You see, the real power of managing the economy and how to affect it does not lie with Congress. That job was outsourced to the Federal Reserve nearly 100 years ago.
A very small group of people who are not part of the government have incredible power to affect change in the lives of billions of people.
Yes, I am talking about the governors of the Federal Reserve. They are instrumental in mandating the monetary policy of the U.S. With the U.S. dollar being the reserve currency of the world, they effectively control the monetary policy of the whole world.
Central bankers are usually appointed for 14-year terms. But most never stay that long. After three or four years, the lure of easy money — book deals, speaking circuits etc. — makes them move on to the private sector and they resign their seats. Doves and hawks are the two kinds of Fed governors we can have. Doves prefer easy monetary policies, while hawks want tight monetary policies. As a general rule, dovish central bankers tend to be democrats. Hence the easy monetary policies when you have a democratic president.
Look at the current Board of Governors:
Janet Yellen, Stanley Fischer, Daniel Tarullo, Jerome Powell, Lael Brainard.
These are all appointees of President Obama. It has taken him years to shape the board. There are two vacancies, but I can assure you that resident Obama will fill those in his lame duck session. With that he will have completely overhauled the Fed Board to be filled with doves.
President George W. Bush packed the Fed, too (Elizabeth Duke, Kevin Warsh, Rick Mishkin, Randall Kroszner), but his appointees are all gone now. However, if they had served out their 14-year terms, they would still be around, and we would have a much more balanced Fed.
So even after these election results are settled or even the next presidential elections, we will still have a solidly dovish Fed, and hence the easy monetary policies are here to stay for a while.
After the initial euphoria of the markets celebrating the election (more of a relief that the negative ads and rhetoric is over), we will go back to the old ways of trading. Each time there is a significant fear of a market correction, soothing ointments (QE, ZIRP, disguised QE, etc.) will be unleashed on the markets.
Essentially we are living the illusion of a democracy these days. The pain of giving up easy money is so severe that neither Democrats nor Republican want the Fed party to end. We believe we are electing officials to affect policy change. In reality we may be just shifting deck chairs on the Titanic.
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