Kevin Warsh needs to walk the walk
A rate rise makes economic sense and would support the Federal Reserve’s credibility
The editorial board
A failure to act risks undermining financial markets’ trust in Fed chair Kevin Warsh’s communications © Al Drago/BloombergIn Jackson Hole last month, US Federal Reserve chair Kevin Warsh delivered an unexpectedly hawkish keynote speech, warning that monetary policymakers had “work to do” if inflationary pressures in the US did not ease clearly and quickly enough.
Until then, investors had wondered whether Warsh would bow to President Donald Trump’s long-running demands for lower interest rates, or stand firm on the independence of the world’s most influential central bank.
His words offered some reassurance.
But as the Federal Open Market Committee begins its two-day rate-setting meeting today, Warsh must now walk the walk.
It is time for the Fed to raise the cost of credit for the first time in more than three years.
There is a reasonable economic case to raise rates.
Data released last week showed that annual growth in the consumer price index remained stubbornly elevated at 3.4 per cent in August.
Worryingly, monthly growth in the core measure — which excludes volatile food and energy components — nudged higher.
At the same time, bumper job creation last month and booming capital expenditure in AI point to robust demand.
Broader price pressures are in the pipeline.
US manufacturers are contending with a fresh wave of supply chain inflation as the Iran war pushes up energy costs and tariffs raise import prices.
Higher gasoline prices have also raised households’ one year-ahead inflation expectations, which raises the risk of higher prices becoming entrenched in the US economy.
In turn, the Fed’s Cleveland branch now projects annual growth in the core personal consumption expenditure index, the FOMC’s preferred inflation gauge, to rise to 3.5 per cent this month — only a slight rise, but still well above the 2 per cent target.
Inflation may not be about to spiral out of control.
But it is moving in the wrong direction.
A rate rise of 25 basis points on Wednesday would at least reduce the risk that the Fed falls behind the curve.
It would also reinforce the central bank’s credibility.
After all, the inflationary concerns Warsh flagged last month have only grown.
Back then he said financial conditions were not particularly restrictive and that any decision to raise rates in September would be data dependent.
With Friday’s CPI release coming in firm, investors are now pricing in a 90 per cent chance of a small rate rise on Wednesday.
A failure to act risks undermining financial markets’ trust in Warsh’s communications.
As it is, the Fed chair has committed to reducing how much the central bank publicly telegraphs its decisions.
Given his recent pronouncements, a decision to continue holding rates also risks being interpreted by market participants as an attempt to appease Trump just weeks before the midterm elections, in which the Democrats could make notable gains.
A failure to raise rates could then muddy the Warsh Fed’s ongoing efforts to guide policy and raise the inflation risk premium investors require to hold US Treasuries, which would worsen the US fiscal calculus.
Amid the ongoing global bond sell-off, the 10-year yield reached its highest level since 2007 on Tuesday.
The Bank of Japan has a similar test on Friday.
With markets expecting a rate rise, failing to deliver could likewise unsettle bond markets.
Central bankers should not blindly kowtow to investor expectations.
But when inflation is well above target, price pressures are moving in the wrong direction and policymakers have already signalled that higher rates are on the table, failing to follow through carries risks, particularly in today’s volatile sovereign bond market.
Warsh has spent his first months in the job trying to convince markets that the Fed will follow the data, not the president.
Now he needs to show it.
0 comments:
Publicar un comentario