NEW YORK (TheStreet) -- Janet Yellen isn't the first Federal Reserve chair to make a highly scrutinized statement about stock values. Famed Fed Chair Alan Greenspan proclaimed the stock market over-valued because of "irrational exuberance" in 1996. Yellen's "quite high" remark this week in conversation with IMF Managing Director Christine Lagarde doesn't rise to the level of Greenspan's eloquence but is being similarly parsed.
The question is, why? Why is the Chair of the Board of Governors of the Federal Reserve System making comments about the condition of markets?
To be fair, Yellen has made several other statements about the condition of the stock market, it's just that the remarks made yesterday seem to be stronger than the ones made before.
Furthermore, it seems as if central banks have accepted the fact that they need to guide the market a little more. This is the whole reason behind the idea of forward guidance as a policy tool, where the central bank actually produces its expectations about the future course of the economy, prices and interest rates. What's the difference between predicting interest rates or predicting whether or not the stock market might be over valued?
The difference is that making statements like Yellen did yesterday or releasing information on expectations about future interest rates or real GDP causes there to be greater volatility in financial markets. When the central bank makes statements about the future, it creates expectations. These expectations are so important because the Fed can seriously impact financial markets through its actions. If these expectations are broken or if the Fed changes its policies, then market participants must scramble around to find out what the new expectations could be. Uncertainty dominates the market, and uncertainty results in volatility.