Fed rate decision: Kevin Warsh faces pressure to explain pause as US inflation rises

The US Federal Reserve is widely expected to keep interest rates unchanged on Wednesday afternoon.The decision comes just a few days before the US midterm elections. The latest data showed that prices in the US rose faster in September.

This has raised concerns about whether the Fed can bring inflation under control. Matt Luzzetti, chief US economist at Deutsche Bank, expects Warsh to say that rising inflation could force the Fed to raise interest rates in the future.

However, keeping rates unchanged in October would give Fed officials more time to study the economy and understand where it is heading, Yahoo Finance reported. Luzzetti said Warsh must avoid repeating the confusion caused during his July press conference.

At that time, Warsh's comments raised questions about whether the Fed had a clear and reliable plan to bring inflation down. Luzzetti said Warsh would want to avoid giving the impression that the Fed is unwilling to take the necessary steps to control inflation that remains high.

The US Consumer Price Index (CPI), which tracks the prices people pay for goods and services, rose 3.7% in September compared with the same month last year. This was higher than the previous reading, showing that inflation was rising again.

Core CPI, which does not include food and energy prices, rose to 2.6%. These prices are left out because they can change quickly. The increase shows that inflation remains a concern. Wholesale prices, which businesses pay for goods, also rose sharply by more than 6% in September.

Higher costs for businesses could eventually lead to higher prices for consumers. The Fed also closely watches the core Personal Consumption Expenditures (PCE) price index to track inflation. This measure was expected to rise above 3%, adding to concerns that inflation remains high.

These inflation figures have made the Fed's decision more difficult. Keeping rates unchanged could give officials more time to assess the economy, but rising prices could increase pressure on the central bank to tighten monetary policy further.

Krishna Guha of Evercore ISI expects Warsh to explain that the Fed looks at overall economic trends rather than reacting to a single inflation report. He also expects Warsh to point out that interest rate changes take time to affect the economy fully, as quoted by Yahoo Finance.

Several Fed officials have indicated that more rate hikes may be needed to bring inflation under control. However, not all policymakers believe the central bank needs to act immediately. Fed Vice Chair Philip Jefferson and New York Fed President John Williams have indicated that the central bank can take more time to assess the effects of its previous decisions.

They have also suggested that any further rate hikes do not need to happen at consecutive meetings. Michael Feroli, chief economist at JPMorgan, expects Warsh to repeat the message that the Fed is prepared to raise rates further but wants more time to assess the effects of the previous hike on the economy, as quoted by Yahoo Finance.

Feroli believes that most members at the centre of the Fed's rate-setting committee do not support a strong and aggressive cycle of interest rate hikes. This suggests that policymakers may prefer a more measured approach rather than raising rates sharply or repeatedly.

However, Feroli said Warsh would need to explain why the Fed raised rates in September when core PCE inflation increased by 0.2% in August, but was expected to rise further by 0.3% in September. The expected increase could make the decision to pause in October harder to justify.

Feroli warned that leaving rates unchanged without a clear explanation, so close to the midterm elections, could lead people to question whether the Fed's decisions were being influenced by factors other than inflation and employment.

Despite expectations of a pause, Ed Yardeni, chief investment strategist at Yardeni Research, believes the Fed could still surprise markets by raising interest rates in October. He argues that such a move could help Warsh avoid being trapped by expectations created by other Fed officials.

Source: Ed Yardeni, as quoted by Yahoo Finance. Yardeni said Warsh opposes forward guidance, which is when the central bank signals its likely future policy decisions in advance. Warsh prefers to watch market signals to understand what monetary policy may be needed.