Warsh Warns: Inflation Still Lurks Amid Strong Economy

The Jackson Hole Economic Policy Symposium, held August 27-29 at an important point for monetary policy, provided insight into the Fed's evolving approach. Chair Kevin Warsh emphasized that short-term interest rates are the predominant tool for achieving maximum employment and price stability. The economy has strengthened, with growing profits and corporate earnings, as well as resilient real consumer spending.

The main risk remains inflation, with a key metric being the share of goods and services in the PCE basket with annualized inflation above 3%, which remains near 50%. Warsh also emphasized that underlying inflation trends have not meaningfully improved, indicating more work is needed to achieve the Fed's 2% personal consumption expenditures (PCE) inflation target.

Markets quickly increased the probability of a rate hike at the September 16 FOMC meeting following Chair Warsh's message. The amount of tightening priced into September fed funds futures rose from 9 basis points before the speech to 14 basis points afterward, while expected hikes through year-end increased by 10 basis points to 36 basis points.

Warsh clarified that policymakers will not wait for task force recommendations and emphasized key principles rather than a specific reaction function. This suggests that the Fed's approach may be shifting, but no clear consensus has been established.