Warsh’s Credibility Test: How The Fed Chair Painted Himself Into A Corner

Only about two weeks ago, downside risk to the labor market had been flagged by a negative nonfarm payroll growth number for July, progress was being made on the inflation front, and Warsh had been exceptionally quiet for a Fed Chair. Consequently, markets were pricing in a low probability for a rate hike in September, just over 30%.

Then, as Rabobank's Philip Marey writes in his FOMC preview note, at Jackson Hole, Warsh surprised the markets with a hawkish speech on inflation. A week later, the new Employment Report erased the negative number for July, replaced it by a positive number, and added an outright impressive positive nonfarm payroll growth figure for August. Then, on Friday, the CPI report showed a larger than expected month-on-month increase in the core CPI, suggesting that progress on inflation was stalling. As a result, markets are now pricing in a near certain probability of a hike in September and 3-4 hikes in total before the end of next year, and then another 2 by next summer.