Warsh’s no-guidance approach confronts a hawkish world and hawkish Fed colleagues

By Howard Schneider

WASHINGTON, July 23 (Reuters) – Federal Reserve Chairman Kevin Warsh may hope to stay mum about the Fed’s rate plans, but fresh oil and potential tariff shocks and a hawkish tilt among his colleagues are likely to test that resolve when U.S. central bankers gather next week.

The Fed is expected to again hold its policy interest rate steady in the 3.50%-to-3.75% range where it has been since December, but consensus may be harder for Warsh to build with oil prices again rising, President Donald Trump preparing yet more tariffs, and some of his colleagues already laying the groundwork for a rate hike.

After more than five years of missing the Fed’s 2% inflation target and inflation-adjusted incomes falling, Fed officials are increasingly concerned they can’t just talk about taming inflation — “no tolerance” as Warsh has framed it — but need to follow through.

In congressional testimony last week, Warsh reiterated his view that inflation was too high but said only that the Fed would look at its “tools” and consider whether it needed to adjust policy. Many of his colleagues have been more direct.

“Sternly staring at inflation until it melts before our withering gaze is not an option,” Fed Governor Christopher Waller said earlier this month, a comment that seemed directed at Warsh’s decision to not only avoid guidance about rates, but also to limit his commentary about the economy or his own likely policy reaction to different developments. Though current inflation expectations appear tame, “it does not mean we can be lackadaisical” and postpone action on rates until they start to escalate, said Waller, a contender for the Fed chair’s job that Trump ultimately gave to Warsh.

The Fed meets July 28-29, with a decision announcement at 2 p.m. EDT (1800 GMT) on Wednesday.

During the pandemic-era surge in prices, inflation as measured by the Personal Consumption Expenditures price index topped 7% in June 2022, driving the Fed into a historically fast run of rate hikes — after a delay that Warsh has criticized as a mistake and promised not to repeat. Price increases did ebb from there, and closed in on the central bank’s target throughout 2024.

Despite a 2024 election where Trump promised to rein in inflation and drive down prices, tariffs and energy costs have been pushing inflation higher over the past 18 months.

Some Fed officials felt the impact of both was fading, offering a reason for patience in any decision to raise interest rates and a reason for Warsh to argue this was a moment when forward guidance was particularly inappropriate.

However, Warsh’s way of deflecting questions on his policy outlook — by applying the circular logic that inflation can’t take hold because the Fed won’t allow it — may hit a limit if support among his colleagues for a rate increase continues to build.

In May, the PCE index, which the Fed uses to set its inflation target, rose 4% year-on-year, double the target and rising notably in recent months.

While the recent rise in oil prices amid a flare-up in the Middle East conflict and Trump’s threat of more tariffs have so far only increased inflation risks, both reverse trends that were expected to help ease price pressures, and will likely add to concern about the public losing faith that the Fed is serious about restoring price stability.

Waller isn’t alone, with other Fed governors noting a willingness to lift rates if inflation does not fall soon, and an even harsher tone from regional Reserve Bank presidents who feel they may need to act.

In her final public comments ahead of the meeting, Cleveland Fed President Beth Hammack said business executives in her district were actually encouraging her to hike rates, a contrast with the normal hope for cheaper credit.

“For the first time in my tenure, I’m hearing from businesses who say they think we need to take action to curb inflation, and from consumers who can’t make ends meet, about a growing sense of despair,” Hammack wrote on LinkedIn.

A quarterly Fed survey of corporate finance chiefs released in June showed inflation ranked as the top concern, and noted that while firms had absorbed rising energy and other costs, they were at the point of turning to price increases. Inflation had ranked sixth in the prior survey, behind issues like trade and labor quality.

July’s Fed Beige Book collection of economic anecdotes pointed to price increases in the pipeline, sometimes from wages and sometimes from adaptation to a rising price environment.

“A Memphis-area firm observed that vendors are increasingly adding inflation-indexed price adjustments to their service contracts, a practice that was previously uncommon,” the St. Louis Federal Reserve reported.

Recent analysis by JPMorgan and Goldman Sachs underscored concerns from Waller and others that inflation was no longer just about energy or tariffs, but seemed more broad-based. Goldman Sachs economist Jessica Rindels estimated that as of June prices for nearly 60% of PCE index categories were increasing at annual rates above 3%.

That was below the nearly 80% of items with prices increasing that fast during COVID-19, but far above the 37% average from 1990 to 2019 when inflation was generally anchored around the Fed’s target.

The 2% target was formally adopted in 2012, and for nearly a decade through the first months of the pandemic, inflation consistently undershot. By February 2021, the PCE index was more than 5% below where it would have been if the Fed had hit its target.

The price hikes since have blown away that cushion, and the index is now around 5.5% higher than it would have been had the Fed hit its goal consistently – an outcome that damps spending power across the economy.

A rate hike may still be avoided.

Gasoline prices may have hit $4 a gallon again, just in time for the peak summer driving season, and tariff threats could lead to a new round of rising import costs. But Goldman economist Rindels, among others, said the breadth of price pressures should narrow by year-end.

That makes the next months of inflation reports all the more important, pitting Warsh’s no-guidance approach against upcoming data and his colleagues’ reactions to it.

“There is a growing sense of frustration with inflation,” said Dario Perkins, managing director of global macro at TS Lombard. “After six years of overshooting their target, people are starting to ask difficult questions about ‘credibility.’ The Fed’s plausible deniability is gone. There is no tolerance for further misses.”

(Reporting by Howard Schneider; Editing by Dan Burns and Andrea Ricci )