– Downplays Soft CPI Report As ‘One Data Point’; Mustn’t ‘Cherry Pick’
– Balance Sheet Should Be Used Only in Crisis; Interest Rates Should Predominate
– Refuses To Give ‘Forward Guidance’ On What FOMC Will Do with Rates
By Steven K. Beckner
(MaceNews) – Federal Reserve Chairman Kevin Warsh stressed again Tuesday that the Fed’s primary focus at present must be on lowering inflation at a time when the economy and labor markets are doing relatively well.
Warsh, testifying before Congress for the first time since becoming Fed chief on May 22, downplayed an unexpectedly favorable consumer price index report released shortly before his appearance before the House Financial Services Committee.
Presenting the Fed’s semi-annual Monetary Policy Report to Congress for the first time, Warsh declined to give any hint of what the Fed’s rate-setting Federal Open Market Committee will do when it meets late this month but promised “a good family fight” over the appropriate course of monetary policy.
Warsh testified that it remains his preference to reduce the size of the Fed’s balance sheet but said he did not want to “prejudge” what a task force on that subject which he appointed might recommend. He doubted whether the balance sheet can shrink back to its size before the Great Financial Crisis of 2008, but said that in normal times, interest rate policy should predominate.
He made clear, as he has before, that he will not be providing “forward guidance” on the future path of interest rates.
The Monetary Policy Report itself declared that the Fed “will deliver price stability,” echoing the June 17 policy statement of the FOMC. Warsh did not use that exact assertion in his prepared testimony, but said it repeatedly in response to questions from legislators.
Inflation, as measured by the price index for personal consumption expenditures, has been running above the Fed’s 2% target for more than five years, as Warsh noted. It was up 4.1% from a year earlier in May (3.4% for the core PCE).
“Among the factors contributing to higher measured prices are earlier tariff hikes that pushed up domestic prices of some imported goods, a surge in energy prices associated with constraints on oil supplies following the start of the Middle East conflict in late February, and increased demand for some high-tech products that support artificial intelligence (AI) applications,” the Report said.
More encouraging news on inflation came shortly before Warsh began his testimony from the Labor Department. Its Consumer Price Index unexpectedly dropped 0.4% in June (largest single-month decline since April 2020) and was 3.5% higher than a year ago. The core CPI was flat in June and up 2.6% from a year earlier.
Warsh acknowledged that the CPI report was “positive relative to expectations,” but called it just “one data point.”
“I’m not for cherry picking,” he said. “I’m not going to show up here and say mission accomplished ….There’s more work to do.”
Warsh was somewhat guarded, presumably not wanting to prejudge the outcome of the July 28-29 FOMC meeting. But he made clear that neither Congress, nor the markets nor the general public should expect the kind of advance hints about monetary policy that was frequently doled out by predecessors.
“In communications, if we were to share with you our every passing thought … we’re human..if we were to give you my (view of)..what do in two weeks…then we would find ourselves taking information consistent with our prior (statements) and rejecting (later) information that’s not consistent.“
Warsh has appointed a task force on communications that will be studying and making recommendations on not just “forward guidance,” but also on such things as the FOMC’s quarterly Summary of Economic Projections with its “dot plot” of funds rate projections and economic forecasts.
The eventual communication reforms “are intended to make the conduct of monetary policy swifter, more sound … to get policy right…,” he said. “In my judgment, that demands an open mind — not pre-committing to a decision before we take it inside the four walls of the Federal Reserve.’
Warsh declined, when pressed, to promise to hold a news conference following each and every FOMC meeting, deferring once again to the task force to make recommendations about that. He vowed only to “make sure you know what we’re doing and why.”
At its June 16-17 meeting, the FOMC left the federal funds rate unchanged in a target range of 3.5% to 3.75%, but it made a major change in its policy statement by ending “forward guidance” on the path of the funds rate, thereby removing a six-month-old bias toward a resumption of rate cuts.
FOMC participants, not including Warsh, fueled speculation that its next move may be to raise rates by projecting that the funds rate will be 25 basis points higher at the end of this year while simultaneously revising their inflation forecasts up substantially in the SEP. They forecast that the PCE price index will be up 3.6% from a year earlier in the fourth quarter – compared to just 2.7% in the March SEP.
Warsh gave no hint that rates are headed higher in his inaugural post-FOMC press conference, but neither did he encourage hopes for rate cuts, despite his “dovish” reputation. He said the funds rate “dots” had been written “with pencils” and with “humility,” because officials “understand the world is changing quite quickly …. So, I didn’t hear tons of conviction.”
The recently minted Fed chief was no more forthcoming in presenting the Monetary Policy Report to Congress. Warsh’s prepared testimony, which will be reprised Wednesday before the Senate Banking Committee. was the most concise ever.
“The Fed’s number one objective is to get monetary policy right—or as near to it as we possibly can. That is our clear and constant aim, the star we steer by,” he said. “And if we get policy right—and we will—the inflation surge of the last five years will be a thing of the past.”
Making clear that he and the FOMC see inflation as their biggest challenge, Warsh said, “My colleagues and I recognize that high inflation has been an undue burden on American households and businesses. While monthly price fluctuations are inevitable—especially in an unsettled world—underlying inflation over longer time horizons is determined largely by monetary policy.”
“The members of our Committee have no tolerance for persistently elevated inflation,” he continued. “And we share a resolute commitment to restoring price stability.”
The FOMC can focus overwhelmingly on inflation, he implied, because “economic activity is expanding at a solid pace, showing resilience in the face of recent developments…..”
Meanwhile, “America’s labor market appears broadly stable,” he said. “Job creation has kept pace with the workforce. The unemployment rate is low and has changed little over the past year. We’re seeing relatively few layoffs, only slight variance in the rate of job vacancies, and solid growth in nominal wages.” Productivity growth “has been strong,” he added.
Warsh took particular note of “the rapid pace” of business investment, which he said, “appears to be accelerating,” “reflects, in large part, the construction of data centers and the immense demand for the AI-related equipment and software that fill them.”
While seeing AI investment as a positive for the U.S. economy, he said “we at the Fed are monitoring the implications for inflation and the labor market.
Warsh again suggested that his chairmanship begins a new era for the Fed, claiming the central bank “stands at a hinge point of history.”
He said he and his FOMC collegues are “considering how best to advance the conduct of policy. We have a duty to point the institution forward—to take a fresh look at current practices to make sure we are serving our objectives.”
“And we are going about it systematically,” he added, pointing to the five task forces he has appoint ed to study Fed communications; balance sheet policies; data collection; productivity, and “inflation frameworks.”
When it came time for members of the House Financial Services Committee to ask questions, many wanted Warsh to elaborate on the FOMC’s commitment to restore price stability and what that would entail in terms of monetary policy action.
Warsh responded by declaring multiple times that the FOMC “will deliver price stability,” but he refused to be specific about the steps the FOMC will take to get inflation down to 2%.
He described the Fed’s anti-inflation strategy as consisting of three steps: first, a “resolute” commitment to the 2% inflation goal; second, “tak(ing) ownership – not pass the buck or blame others, and third, “we have the tools to deliver” 2% inflation.
“And we will deliver,” he emphasized.
Putting it differently in response to another question, Warsh said the Fed’s first undertaking on the road to 2% inflation is to “make clear to you and to the American people this is not a commitment we’re going to walk away from; the higher inflation we’ve had for more than five years is not acceptable .”
Second, he told congressmen, the FOMC will “take responsibility” and have “no anguish” about achieving that objective. “You gave us a lot of tools to deliver on our commitment (to price stability), and we intend to do it.”
Third, “we have the tools,” he reiterated. “We have a printing press, we have a balance sheet and we have interest rates. Over the coming period I’m going to ask my colleagues…how to deploy those tools.:
While declaring that “we have the power, we have the tools” to slash inflation, Warsh declined to say how those tools will be used.
“I’m not in the business of trying to prejudge what the Committee will do,” he said, adding that after “a good family fight … when we have news for you exactly what to do (to lower inflation)…we will be very clear.”
Warsh said the Fed “cannot have a short-term immediate effect on prices in stores.” Rather, “our job, which we are resolute to accomplish, is to make sure price changes don’t broaden out.”
“Unfortunately that’s what’s happened in the last 63 months — sticky prices,” he went on. “The longer prices have been above the 2% target, it’s usually harder to get them lower … our job is to take sticky prices and unstick them.”
While focusing heavily on reducing inflation, Warsh was careful not to neglect the “maximum employment” side of the Fed’s dual mandate. He told congressmen the Fed is just as committed to that goal.
But he said there is no “cruel choice between stable prices and full employment. If we can assure stable prices, the economy can thrive, businesses can hire more employees, and America can … continue to be the envy of the world.”
“I don’t think it’s an either/or choice,” Warsh added. “At different times we may focus more on one or the other, but they’re consistent with each other.”
Having said all that, though, he made clear he does not think the economy is in need of additional monetary stimulus, notwithstanding his reputation coming into the chairmanship of being a rate cutter, as he pointed to “solid” growth and the “remarkably resilient” labor market.
Although he was reluctant to say which tools the FOMC would use to reduce inflation or how it would use them, Warsh strongly suggested that the FOMC will rely on changes in interest rates, not the balance sheet.
Prior to his nomination by President Trump, Warsh was outspoken in blaming high inflation partially on the vast expansion of the balance sheet through renewed “quantitative easing” during Covid and in advocating that the balance sheet be greatly reduced. He was a bit more reticent Tuesday.
One of his task forces is devoted to the balance sheet, and Warsh said he does “not want to prejudge” what the task force will recommend.
But “as a first approximation, in normal times the Federal Reserve should be a price taker, not a price maker,” he said, implying that the Fed now has too large a role in the bond market.
“When it comes to a crisis, I can’t say for sure (the Fed) will sit on the sidelines,” he added.
In judging the proper role of the balance sheet as a policy tool, Warsh said, “We have to look at a mosaic of information … how best to conduct monetary policy … with clear and simple rules….
“We have to go back to first principles and ask if this large balance sheet of longer duration is consistent with good monetary policy and ask if there is a better regime — how to get from the current regime to something else, with a goal not to disrupt financial markets.”
Warsh doubted the Fed can go from the current regime of “ample reserves” back to the “scarce reserves” regime with a smaller balance sheet that the Fed had before the Great Financial Crisis
But he made clear he does want change in balance sheet policy.
“In periods of crisis, when markets aren’t clearing, I’m willing to be quite aggressive in what the Fed does with the balance sheet, with what assets that we buy as necessary in unusual and exigent circumstances,” he said.
But “when crises are over, monetary policy in my view, should be driven almost exclusively by interest rate policy.”
Warsh quoted former Fed Governor Jeremy Stein in saying “interest rates get in the cracks.”
“Interest rates don’t favor one class of people versus another,” he said. “They don’t favor those who have financial assets more than those who are living off their bi-monthly paychecks. So, I like interest rates as the dominant way of making monetary policy, and I prefer to use balance sheets (only) when crises are real.”
“However,” Warsh added, “I’ve inherited a very large balance sheet with a complicated set of assets, and I am open-minded to reforms, as are my colleagues, and I’m keen to work with the task force to achieve that.”