Kevin Warsh tears up forward guidance on rate moves at the Fed
Kevin Warsh, the chairman of the Federal Reserve, signalled a major change to how the US central bank handles the run-up to its key interest rate decisions overnight, telling investors across global markets that “we’ve dropped forward guidance”.
There was concern in the City that it could mean a decline in the level of transparency over some of the most important and influential decision making in the entire financial system.
Warsh was speaking at a press conference after his first meeting running the rate-setting Federal Open Market Committee.
The FOMC left the benchmark cost of borrowing in the world’s biggest economy on hold, as expected, with the Fed funds rate left in a range between 3.50 per cent to 3.75 per cent.
Forward guidance is a long established approach to decision making, in which policymakers are transparent on their expectations on the timing and the size of rate moves. Their decisions affect the cost of millions of loans, mortgages and wholesale financial transactions based on it.
The Fed publishes a regular Summary of Economic Projections on which FOMC members reveal that thinking in what is known as the ‘dot plot’ after the chart which illustrates it. The SEP also covers their impressions on other key indicators used to inform their decisions. This time around, Warsh and several other FOMC members refused to add their dots.
Vote tilts surprisingly hawkish
Of the 18 policymakers who did, nine predicted rates would be higher by the end of the year. This hawkish stance surprised markets, hitting stock markets and lifting the dollar,
The dot-plot will not have made welcome reading in the White House. And the outlook it reveals could also make for an uncomfortable second half of the year for the Fed’s new chief.
White House criticism of the previous Fed chair – Jerome Powell, also appointed by Trump, during the president’s first term – sent shockwaves through Washington politics and New York dealing rooms alike.
Trump even threatened to to try and remove Powell from his post as most influential central banker in the world, a role designed to be beyond day-to-day political interference.
City experts expect less insight from the Fed on its intentions.
David Morrison, senior market analyst at Trade Nation, said: “There’s some speculation that Warsh may want to get rid of the dot plot, arguably the most exciting element in the SEP, as it relates directly to interest rate forecasts.”
Into Wednesday’s meeting, he added: “The CME’s FedWatch Tool suggests that rate cuts are completely off the table for this year. Instead, there’s just a 40% probability of ‘no change’ and a 60% likelihood of at least one rate hike before the year-end.”
Warsh’s press conference revelation on forward guidance came after the latest SEP and dot plot surprised the market with a more hawkish feel, pointing to rate hikes ahead and seemingly ruling out any cuts this year.
Can Fed independence survive?
Independance for the US central bank has long been an item of faith for investors around the world. Trump’s aggressive advocacy for cuts put Warsh even more firmly in the spotlight.
The extra attention came after war in the Middle East stoked a wave of inflation from higher energy prices, conditions which would lead to rate hikes to tame inflation.
Before the energy shock from the Iran war, the next moves on rates were expected to be cuts.
The Fed has a dual mandate. It is expected to foster both maximum employment and stable prices, meaning it must both contain inflation and stimulate job creation.
Warsh said his Fed would “deliver price stability”, calling “persistently high prices” a “burden for the American people”.
He also backed away from offering signals on what is next, saying simply of the FOMC “the good news is we will be meeting again next week”.
Jim Reid, Deutsche Bank’s global head of macro research, called the latest meeting “momentus”, adding that “a hawkish dot plot and Warsh’s inflation-fighting rhetoric” left a sense that rate hikes are firmly under consideration.
“This shift led investorsto fully price in a Fed hike by October”, Reid said, adding:
“While the new chair eschewed any policy guidance, including by not submitting his own forecast to the dot plot,he did not push back against the hawkish dot plot signal and did not lean into any potential dovish arguments.”
Chris Turner, global head of markets at City bank ING said:
“Without any forward guidance in the curtailed FOMC statement or in Warsh’s press conference, it will be interesting to see whether Fed members are allowed to say anything about the future policy path in their speeches. These will start next week.”