Fed Edges Closer to Rate Hikes in Kevin Warsh's First Fed Meeting

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1:32Bloomberg Audio Studios. Podcasts, radio, news. This is Bloomberg Business Week Daily. Reporting from the magazine that helps global leaders stay ahead. With insight on the people, companies, and trends shaping today's complex economy. Plus, global business, finance, and tech news as it happens. The Bloomberg Business Week Daily Podcast with Carol Masser and Tim Stenebeck on Bloomberg Radio. I'm Christina Ruffini here with Emily Graffaio. Carol and Tim are on assignment, but we've got you covered. We've been watching this all afternoon. Obviously, the first remarks we've heard from Kevin Warsh in this job.

2:12What stood out to you, Emily? Well, first of all, the remarks were shorter than we usually expect, particularly the press. Written and verbal remarks. Yeah, they were both shorter. Yeah, I mean, that's definitely what stood out to me, Christina. And I think the markets are actually reacting perhaps more than I would have expected, particularly in the bond market. All right, we're going to dig all into that shortly. But first, let's play some sound from Kevin Warsh's first time at the big podium. At any institution, a change in leadership is a natural and timely opportunity to reaffirm its mission, to review current practices, and to consider whether those practices best meet our objectives.

2:51I'm appointing a task force in each of five areas that are central to the broad conduct of monetary policy. We recognize that inflation has been running well ahead of the Fed's long stated inflation goal of 2 percent. That's been going on for more than five years. We've dropped forward guidance. This committee will deliver price stability. And that was Fed Chair Kevin Worsh at today's press conference. Following the paper statement, we saw two-year yields spike sharply. And now we're seeing that move continued again, 16 basis points higher on the two-year. The next FOMC decision, July 29th, Christina.

3:30So we'll be waiting for that. It's not that long away, yeah. And we'll probably not get a lot of communication from the Fed in between, as this is a Fed that is committed to easing back that forward guidance and that communication. But we did learn there's going to be a task force about the communication. So we are going to ask our next guest about all of this with more on today's Fed decision and market reaction. Let's bring in Yelena Shalateva, senior U.S. economist at the conference, Born, joining us right here in person. Let's just get your initial reaction to what we saw today. A task force for everything.

4:03Right. So that that was my initial reaction. Well, actually, today brings back memories when young Yelena started covering, you know, started looking at the Fed under Chairman Greenspan. So, like, shorter statement, sharper communication. And I think that it means something by itself. Obviously, this is something we expected from the meeting today, like a revamp of communication in particular, right? So I think we're going to get some revamp in terms of the dot plot. That will probably go. We don't know that. There's a task force for that. But there were some unexpected things today as well. So some expected stuff and some unexpected.

4:48Unexpected part was how hawkish the committee was. The number of people who actually wanted to see rate hikes this year, the recommitment to the inflate. It was half. Yeah, it was nine out of 18 who submitted the dots and the recommitment to the inflation side of the mandate on top of a higher forecast for core inflation today. How significant do you think it is that Warsh, you know, when you saw the dots, there was one missing and everyone kind of assumed it was him. And then he confirmed that in his remarks. And he said he just doesn't think, you know, these forecasts are helpful right now, given how uncertain everything is.

5:26Does he have a point or do you think it's how significant is it that we didn't have a Warsh dot? The dot plot has been a very interesting thing well before WASH started. So I know a lot of people had different opinions about that and a lot of people wanted to get rid of it. And so it's not an easy answer. Actually, you know, I think it's a good thing that we will get that task force looking at different types of communications. Some things were great during the financial crisis. Some things were great during the COVID crisis. How are we doing it now? What should be the approach? I think that's probably has been long overdue.

6:09I think it's interesting because he was asked, I think, by Mike McKee if he was anti-press conference. And he said no, actually. He said press conferences are, quote, a very useful way to communicate, but they need to have something to say. Which probably means not a press conference after each and every meeting. So that's how I read that statement. But again, we will see. Probably they will continue at least this year until that review is done. We will continue to hear from him at each and every conference. How do you think the task forces are going to contribute to consensus at the Fed or a lack of consensus?

6:48It just seems like it's going to introduce, you know, more cooks in the kitchen, essentially. Well, we are very much used to the cacophony of different, you know, opinions on the Fed. I think it's a good thing. I think, you know, people expressing their own views is an absolutely great thing. And I think that should continue. So actually, this is one of the things that I'm very concerned about, that there will be some limitation of how much you can actually express your views. I don't know in practice if that could be done, but I think that, you know, the transparency introduced during the financial crisis was one of the biggest achievements of this Fed.

7:32When it comes to these committees, do you think they also give Warsh a bit of cover from the president where he can say, look, I am remaking it. I'm taking a look at the institution. We're doing it. But whatever the conclusions of these working groups are, he can then point to them and say, well, this is what they decided. And the decision is less on him. Let me tell you something. I think it's a good time to review a lot of things because, you know, the economy is giving us a good gift right now. So you don't really have to do anything in terms of interest rates right now. So probably now is really a good time to do all these reviews.

8:07When you just think about the message that we got from the Fed today and also the market reaction, do you think the Fed is viewing inflationary pressures as temporary? I hate to use the word transitory, but, you know, temporary. They used a supply shock language in the statement, right? So that tells me that this is kind of the idea, that they are viewing it as a temporary thing. And, you know, the omission of the labor market mandate mentioned in the statement is not necessarily, you know, saying, oh, we are more focused on the inflation mandate. They actually reaffirmed the dual mandate language in the statement.

8:48In that short statement, they managed to do that. I think that, you know, they will pay a lot of attention to inflation right now, but they will continue to be balanced going forward. But this idea that, you know, half of the people at the Fed are saying, yeah, they're split. They're split right now in the data. Well, whether he wants to pay attention to the data or not, you know, or the quality of this data. But they have to do that. And the data will eventually tell us whether this is a temporary shock or not. We've got about a minute left. But on that and on that split, this meeting was a little bit good for him, right?

9:25Because there was unanimous consensus on to leave rates. When you get to the next meeting, the next meeting, you start to see that split. Is it going to be harder for him to project leadership? Is he going to have to do a little bit of, as he mentioned, family meetings or family fights? Is it going to be difficult to hold that consensus together? I think that a lot of different people on the committee have a lot of different opinions. It's very good to see that consensus building in the first meeting, and it was actually very good to see. But you're right, we could see some dissents going forward.

9:59I will not be surprised. Did you think that you were going to hear the word task force that many times in the first press conference? That was probably another unexpected thing, you know, on top of how hawkish they were today. Stay with us. More from Bloomberg Businessweek Daily coming up after this.

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12:42And of course, we have a unanimous decision again to leave rates unchanged today. That's right. Looking forward. I did enjoy your read, but let's get a read from our other two guests. We've got Stuart Paul. He's Bloomberg Economics, U.S. and Canada economist. And Andrew Szerowski, he's strategic income portfolio manager, portfolio, I can say that word, I promise, manager at Morgan Stanley Investment Management. Thank you both for joining us. All right. Who wants to take it first? What were your initial impressions? Were we surprised? Not surprised? Well, I'll jump in. Look, I expected Kevin Warsh to come out swinging to be rather hawkish.

13:13So that's when the first thing that we saw was the FOMC statement. I was actually a little bit surprised. Most of the text of the FOMC statement, at least on my read, was rather dovish. He was focusing, or I should say the committee itself, was focusing on supply side factors that are contributing to inflation. The committee was focused on the fact that the labor market is relatively unchanged. I was not saying that there's any progress or any strength in the labor market, for example. The one hawkish line in the statement is just that the Fed is committed to its 2 % inflation target, basically.

13:53So that took me a little bit by surprise. But the dots really do all the talking that we needed to see today. The ones that are there. That's right. The dots that we received today spoke volumes, said far more than the FOMC statement really ever could. And obviously, that's what markets are indexing on. Andrew? Yeah, it was certainly a very hawkish dot plot and certainly a very hawkish press conference. I guess the question for markets is still, is this a lot of bark so you don't actually have to bite later? Basically, are you trying to tighten financial conditions now? Are you trying to threaten with rate hikes, which you know will ultimately combat inflation more than if you come out and say, and it also gives you credibility.

14:37This is your first press conference. You need to come in. You don't want to seem like a puppet of the administration. So you come out and you talk extremely hawkishly. Are you going to follow through on it? That's still to be determined. But I think you did your job in the first press conference by giving yourself some credibility. Now, we'll see. Again, six weeks from now, are you still going to be talking this way? I think, you know, right now it's easy to talk and obviously risk assets are kind of, you know, falling on this news. But I'd like to see if they actually follow through. The reaction in the front end of the bond market, 16 basis points higher on the two year.

15:09Does that surprise you? And do you think that holds? Yeah, no, it's certainly surprising me because I wasn't expecting there to be eight, nine FOMC members who were projecting a hike as the next move. And, you know, there was talk of three or four. And so I think that's where the big surprise was. And look, as a bond investor now, you have to kind of increase that probability that that is the next move. Again, this is a very divided Fed. You can see that with half the committee thinking hikes and half the committee thinking cuts, there's not very often that we're at that place. And so I think that time will tell.

15:43I do think that there's some tailwinds that are going to help new chair Warsh, which is, look, oil's just fallen$35. Six weeks from now, we get another couple of CPIs. that things could be going your direction where headlines coming down because gas prices oil. And so you can say this now and then look, you have some time to kind of figure it out without actually hiking. Although we did see a little bit of shakiness after the president said if Iran doesn't agree to those terms that, you know, he's going to go back to bombing them again. We did see that reflected in the markets and in Brenton WTI a little bit this afternoon.

16:14Stuart, Worsh also said there was limited discussion about a rate cut today with one proposal. Do we think that was his proposal? Do we think he was a limited discussion? No, I don't think that he was offering anything in terms of cuts. His real opportunity today was behind that pulpit. It was behind that podium, using the bully pulpit to his best advantage. And he put basically no emphasis on the labor market at all. Anytime he brought up the remit from Congress, he did not bring up a dual mandate. He focused entirely on price stability. So I don't think that any of the discussion around the table by anyone with regard to cuts was being encouraged by Kevin Warsh today.

16:55I think that we saw pretty vintage Kevin Warsh behind the podium, and I imagine that he was the same way in the room. What I'm a little bit interested in, and Christina, this is to your point, we have seen energy prices coming down pretty substantially. Andrew, you mentioned this as well. When we see the move in markets following both the FOMC decision and the press conference, we saw long-term rates floating up a little bit, but we saw break-evens falling. So literally throughout the entire curve, they're viewing this as hawkish, but not necessarily hawkish. I guess just real rates are still rising throughout the curve.

17:35Is this indicative of just some sort of a regime change everywhere? I mean, And I'm interested to hear your thoughts, Andrew. No, it's a good question. I think one of the things for the bond market for real yields is that this, when you're talking about the amount of communication we're going to get from the Fed, it seems like if they're going to be less communicative, then volatility is going to be higher. But I think that Chair Warsh's sole focus on inflation and this is like inflation's a choice, all these things should certainly be, you know, compressed break evens and give give bond investors the confidence, look, short-term pain, long-term gain as far as where yields can go.

18:12If you basically can speak hawkish now and say you're going to combat inflation, that's good ultimately. And you're obviously seeing it in the 30-year where yields are actually down despite the move in the front end. This is one of the biggest flattening days we've seen in some time. I think that break-evens are ultimately going to follow oil in the short term. If this truce with Iran is longer lasting, then I think you'll continue to see break-evens come down. And again, they've come down 50, 60 basis points at the front end just in the last month or so. And that's all related to oil. And I think that I don't think we have that big of an inflation problem if the war in Iran is over and oil is going to resume.

18:48It's kind of, you know, March. Yeah. So it's a big if. Exactly. It's a big if. And I think this would have been a much tougher meeting for Chair Warsh three weeks ago, four weeks ago, when all of a sudden oil is at 110, 115. I think that's a situation where, you know, we didn't know if oil was going to 150 next or 200. The Strader Hormuz is still closed, but oil is at$75,$76. I think it's easy to talk like this now. This could have been a much tougher meeting just a few weeks ago. When you look at their approach, and we're saying that he's likely going to be less communicative, and you have all these, not working group, task force, so many task force, to talk about the communication.

19:23Is there a risk, and one of our colleagues posed this question, but is there a risk that if the Fed, to your point, is communicating less in a time of market volatility, that silence is going to get filled somewhere? And they could lose track of the narrative and almost be less influential if other people are filling that void that they would expect the chair to fill. I'm not entirely that worried. From a monetary policy making perspective, communications as a tool for conducting monetary policy is asymmetric. It's really valuable if you're constrained by the zero lower bound and you're trying to talk down the curve.

19:57You're trying to give some sort of a credible commitment that you will not raise rates. Instead, we're in this moment where risk is somewhat two-sided. Policymakers are divided on whether they want to stay still, at least through this year, and then deliver some sort of a cut or hike before a year end. And when that's the case, offering any sort of forward guidance is just unnecessary hand-binding by the Fed. And so I'm not sure they're entirely worried about losing control over the narrative. Instead, I think that, at least it sounds like from Kevin Warsh, it's a good thing to remove oneself from crafting the narrative, to let markets digest information as it becomes available, and the Fed will deliver the policy that it thinks is necessary and appropriate.

20:41And the objective of guiding markets' expectations is less valuable than establishing, let's say, independence, both from the market and from political pressures. Andrew, what do you think? Because you're someone in the markets, How are you going to, I mean, is there an information void now? And if you think there is, how are you going to determine the path of Fed policy ahead if you have that lack of guidance? There are other signals you're going to pay more attention to? No, look, I think you'll read more of the speeches that are kind of intermeeting and see what different FOMC members are saying.

21:17I think Stuart makes a great point where a lot of times the Fed is talking for the sake of talking, but you don't have much to say. It's like if we're on a pause for six or 12 months and you're just, you know, doing this press conference, you know, I do think it's going to be tough to kind of walk it backwards. And then just what are you going to have like an impromptu press conference every time you hike or cut? It's going to be tough to keep those things quiet. And there's always things that are going to kind of leak through through the system. So I think that it's something that markets crave information.

21:45And as you know, as you were saying earlier, like there's going to be if there is some information void, people are going to look to somewhere else. You know, again, there's a task force. We'll see, you know, if the task force ultimately decides this is in the best interest, then maybe we keep them. I think that, you know, are you going to go to every other meeting? What are you going to do if not, you know, at every meeting? It's kind of obviously we used to be there, but I think that it ultimately may end up staying in the long run, but we'll see. So to clarify, I just want to recap because we haven't actually said it.

22:16So in his prepared remarks, he announced four task force, one on communications, one on the Fed's balance sheet, one on the use and reliance of existing data sources, and one on productivity and jobs. So I'm sorry you were going to say something. Well, it's interesting that you bring up the idea that, yes, there are all these task force that are going to be rolled out to perhaps offer some additional information. Yes, if you had prepped a Kevin Warsh Fed drinking game and task force had been on it, we would all be in very bad shape right now. That's right. Task force was where price stability would have been another, you know, would have been on the bingo card also.

22:48So we're going to get some additional information from these task force. Andrew, to your point that in the absence of formal communications from the FOMC, markets are going to be looking for that information elsewhere. The thing that I'm a little bit hung up on is that maybe that information doesn't come from a person. Maybe we go back to circumstances where that information is provided by the data. That information is provided by evolving global conditions. And I think that that's something that would definitely be welcomed by the Fed. But where that intersects with these task force is interesting.

23:20If you don't entirely know where the Fed is looking for its inflation information, because that's evolving with these task forces. Is it like attorney's general task force? Anyway, continue. It becomes a little bit more complicated to get any sort of insight into the Fed's reaction function or guidance for policy. I think that instead we're going to need to work the other way as economists, at least in my seat, we're going to need to work the other way as markets evolve, as the data evolves. What are we thinking about the intersection of, let's say, markets and the real economy? So over the last several months, we've seen some tightening of financial conditions in the form of higher rates.

24:04And we have at least thought that those higher rates would do some of the heavy lifting for the Fed. The Fed wouldn't necessarily need to deliver cuts because we've already seen some of the move in markets. And that would restrain economic activity. And so it seems like that would be a way that we might have to consider both economic evolution going forward and financial markets evolving going forward. Andrew, were you at all concerned? I don't know. I guess I've covered Washington long enough. I always think of that. if you torture the numbers long enough they will confess adage and when i heard them doing a task force into quote the use and reliance on existing data sources any any concern there that that lends itself to manipulation if that were to be changed too drastically and chair wars has spoken before he came into office about some of the inaccuracies in the inflation that are not inaccuracies just some of the quirks with the inflation data when you look at using oer for housing instead of some other metrics where you have zillow uh zillow rent index which is showing one one handle year over year inflation in rents and apartment list is showing negative but owners of global rent is showing three and a half so i think some of these things are a way to actually um you know show that the inflation number is actually lower you know there's metrics out there like trueflation and stuff they're showing a much different inflation picture but we know we do have an inflation problem right now you know my view is that it's just solely reliant on the move in oil and if oil's coming down, then it'll solve itself.