MNI INTERVIEW: Fed Hawks Right To Focus On Inflation - Harris

The Federal Reserve’s more hawkish members were justified in pushing for interest rate guidance that would indicate that it's possible one of the central bank’s next moves could be a hike because of mounting inflation risk linked to the Iran energy shock, Ethan Harris, a long-time Fed watcher who began his career at the New York Fed, told MNI. 

“I think the hawks on the committee are absolutely right. I don't think the Fed needs to slam on the brakes here, but they should have a symmetric statement that argues that rate hikes are certainly on the table,” said Harris, who spent the last 14 years of his Wall Street career leading global economic research at Bank of America. 

“This is setting us up for that fight. But it’s not surprising to me that many people in the committee want the symmetric statement,” he said.

This week’s FOMC decision saw four dissents, the most since 1992, with three Fed presidents saying they backed holding rates steady but “did not support inclusion of an easing bias in the statement at this time.” 

Against that backdrop, Harris thinks incoming chair Kevin Warsh will have a hard time pushing for the interest rate cuts that he had previously intimated might be needed because higher productivity might allow for stronger non-inflationary growth. 

“We already know that they’re going to vote against him. You can see it in the Summary of Economic Projections. It’s clear that nobody in the committee buys the high productivity, low inflation argument that Warsh and the administration are making,” he said. 

“You look at the committee and there’s a pretty big chunk that want no rate cuts. To win this argument, Warsh has to convince them on the merits.” (See: MNI INTERVIEW: Fed Rate Guidance Muddled By Chair Transition)

INFLATION CREDIBILITY

Indeed, a prolonged period of above target inflation might warrant a new chair sounding extra hawkish in order to reinforce the central bank’s price stability credentials. 

“Warsh should be talking about the absolute importance of getting inflation back to target as fast as possible,” said Harris. 

The most he might be able to accomplish at his first meeting as chair in June is to shift the Fed’s language in a way that satisfies hawks but simply gives less forward guidance in either direction, said Harris. Warsh has repeatedly stated he is not a fan of forward guidance because it unduly binds policymakers’ to their oft-revised forecast. 

“It may be that’s where we’re heading with Warsh – the statements are more repetitive, plain vanilla, not really saying anything. There’s already some of that. You can see the wordsmithing when they try to get a consensus around the language so there’s a lot of very general statements in there. I think he will add to that, the attempt to give less information on the statement," he said.

COMMUNICATIONS 

Harris also believes Warsh will have to forge a consensus for any major overhaul of the current communications framework, ranging from regular press conferences to whether and how the Fed releases its “dot plot” of individual and median rate forecasts. (See MNI POLICY: Warsh Could Reshape Fed On Rates, Communication)

“If he’s going to make changes to the fundamental communication of the Fed, you can’t do it by fiat. He’s got to talk to the committee and convince them of that as well. So I wouldn't expect much in the June meeting for that,” Harris said.  

“These are all the things that are the subject of massive literature and debate. A few talking points are that the Fed talks too much or the Fed pre-commits and therefore it can’t change its mind. A lot of those arguments are addressed in the literature," Harris said. "There's a good reason why central banks give forward guidance these days, because that's the consensus of the literature."