A Good Family Fight

Warsh says he wants one, inflation demands it, and the dot plot is how we'd see it.

Credit: Getty Images. Kevin Dietsch. Eagle on the front of the Fed’s Eccles Building.

All eyes will be on Kevin Warsh this week as he chairs his first FOMC meeting. However, with PCE inflation on track to top 4% in May, the more pressing question is whether the Fed should raise rates this year. The debate around the FOMC table will be critical, and I worry that Warsh’s efforts to rein in forward guidance could bury it. Obscure a hawkish shift now, and markets get an unwelcome surprise if the Fed actually moves. The uncertainty itself could add to borrowing costs.

To hike or not to hike.

Inflation, not the labor market, is the problem that the Fed faces. In some ways, that’s an improvement from last year when both sides of its dual mandate appeared at risk. The good news of a stabilizing labor market in recent months has been overshadowed by a sharp pickup in inflation. The new inflation largely stems from an energy supply shock due to conflict in the Middle East, but it is layered on top of an overshoot of more than five years.

The standard approach is for the Fed to ‘look through’ the energy supply shock and not hike. Raising interest rates would not solve the supply constraints pushing up prices, and it would reduce the well-being of families, whose purchasing power is already being squeezed by higher energy prices. That basic logic applies to any supply shock, including tariffs or pandemic-era snarled supply chains.

The standard approach is only a starting point in the policy deliberation. Inflation that starts with a supply shock may still prompt the Fed to hike rates. A rate increase could be appropriate if the initial price increase triggers a feedback loop of further price increases. My last post on the breadth of inflation was motivated by that outcome. Of course, waiting until inflation has clearly spread risks moving too late, so the Fed monitors conditions that might raise the likelihood, such as an overheating labor market, excess demand in general, and an increase in longer-term inflation expectations. So far, none of these common triggers for hiking into a supply shock are flashing red; that cautions against a hike.

What normally settles the debate may not be sufficient now. There is an additional argument in favor of a hike that is gaining traction on the committee: duration. With inflation above 2% for more than five years, there are rising concerns about inaction. It might be appropriate to look through each supply shock on its own, but a whole series of shocks that keep inflation elevated for years may require a rate increase. At a recent event on the legacy of the Powell Fed, Christy and David Romer, two experts on monetary policy, made this argument:

… faced with a shock whose impact on the price level is likely to play out over an extended period, but whose effect on inflation is likely to ultimately be transitory if inflation expectations remain stable, policymakers should focus less on inflation expectations and more on the inflation itself, and so be more willing to respond. This could temper the inflation, and so reduce its harms. And more speculatively, by showing policymakers’ concern, it might at least marginally reduce the anger caused by the inflation.

Cleveland Fed President Beth Hammack has applied similar logic on duration to argue that rate hikes might be appropriate this year. It is worth noting that Janet Yellen, in concluding remarks at the event, disputed the Romers’ conclusion and argued for the standard approach to supply shocks. There will almost certainly be a robust debate around the FOMC table—a debate about which data to use, and a debate about what the data show.

Following the standard approach to supply shocks, I would argue for the Fed to hold, not hike, this week, and I expect the majority of Fed officials will agree. However, the question of duration is a hard one. After five years of elevated inflation and deep frustration over higher prices, it might seem like the easy answer is for the Fed to hike to get inflation down. But a hike does not fix the energy shortage. It reduces demand by squeezing the same families already under pressure from higher prices, and for most of them, the cost is not a lost job but the raise that never comes. Would people be better off if the Fed were more aggressive this time, or just poorer in a way that is harder to see? It’s a tough call. There’s a good reason the FOMC is divided.

A diversity of views.

The debate at this week’s FOMC meeting will largely play out behind closed doors, though the Summary of Economic Projections (SEP)—which includes the dot plot—released on Wednesday will offer clues on Fed officials’ thinking.

In the SEP, each official provides their forecasts for inflation, the unemployment rate, real GDP growth, and the federal funds rate for 2026, 2027, 2028, and the Longer Run. It's a special kind of forecast: most forecasts take the federal funds rate as given and predict the economy, but the SEP runs the other way—each official chooses what they believe monetary policy should be and reports the economy that follows. It's a bit like letting each official be the FOMC. Median inflation in the SEP almost always returns to the 2% target within about three years. There's a reason. If an official expected inflation to be persistently above 2%, normally they would revise their appropriate federal funds path upward until inflation is expected to reach the target. So an official who projects inflation to remain above 2% at the end of the forecast horizon is telling you something specific: they view the costs of an inflation overshoot as less than the costs of the higher rates required to end it. A supply-driven overshoot could create such a gap, and that will come down to the official’s value judgment.

What I find most useful in the SEP is what it reveals about the officials' value judgments or, in Fed jargon, their individual reaction functions. When it added the rate projections, the Fed first sought to create a consensus forecast within the FOMC—one path for the federal funds rate, not 19 separate ones—but they were unable to reach an agreement. Because each official submits their own path, the SEP is not the best source of forecasting what the FOMC is most likely to do. The median dot is often misread as the Fed's most likely path for rates. It isn't—it's just the middle of 19 individual judgments, not a number the committee agreed on. The SEP maps the range of viewpoints entering a meeting, not the policy likely to come out of it.

The viewpoints from Fed officials reflected in the SEP are a window into the debates around the FOMC table. This week’s SEP is likely to show division and an increasing number of officials who view a rate increase from the current range of 3-1/2 to 3-3/4 percent as appropriate this year.

The Survey of Former Fed Officials and Staff (SOFFOS), led by Jon Hilsenrath, clearly shows the shift. In the June survey (green dots below), 17 former Fed respondents said a hike would be appropriate this year, versus 14 in favor of no change and only 1 in favor of a cut. The magnitude of the hawkish tilt is notable, too: most of those favoring a hike put it at 50 basis points or more. In contrast, in the actual March SEP (blue dots below), most Fed officials thought that cuts would be appropriate this year.

The survey of former Fed officials and staff is likely more hawkish than the SEP from current officials will be this week, but it shows where the hawkish edge lies—and how much pressure the standard approach of looking through supply shocks is under. Markets have already priced in a rate hike this year, on the back of worse inflation and better labor market data, so a hawkish lean from the Fed would not be a complete surprise. But markets pricing an eventual hike is different from the Fed itself signaling one. If the median dot showed a hike as the appropriate path, it would mean that the central tendency among Fed officials has shifted from a watchful hold to preparing for a rate hike. That would be the surprise.

Keeping the signal.

The debate at the Fed over how to respond to inflation is heating up, and the SEP will be one way to measure it. But the SEP itself is in the crosshairs. The new Fed Chair, Kevin Warsh, has been skeptical of the dot plot for years, as well as of any forward guidance in which the Fed discusses future policy decisions. He worries that publishing forecasts, even individual ones, pushes officials toward a common view, stifles genuine disagreement on the committee, and creates a bias against reacting to changing circumstances. The SEP has its flaws, but Warsh's concerns strike at the core of the exercise.

Given his concerns, it would be no surprise if Warsh decided not to participate in the June SEP and withheld his forecasts. Other Fed officials might also withhold their forecasts in support. A SEP without the Chair would get much less attention, but it would also mask the range of views on the committee.

Neutralizing the SEP this week might address some of Warsh's concerns, but it would almost certainly create new ones. With inflation rising and the committee visibly split, drawing attention away from the dots risks looking like an effort to hide the hawkish shift. A Fed that appears to be concealing its own debate could look complacent about inflation, which is exactly the credibility it can't afford to lose. Letting the debate show, even alongside a near-certain hold, is what signals the Fed is awake to the problem.

A more constructive approach than withholding his dots would be for Warsh to participate in the SEP and clarify in the press conference that it reflects an individual's views at a point in time, not a commitment to act in the future. Warsh could reiterate his concerns and commit to either improving the SEP or winding it down, with the committee’s backing.

Warsh himself said he wants a “good family fight” on monetary policy around the FOMC table. Whatever its shortcomings, the dot plot has been a key tool of the Fed family. Improve it, don’t undermine it—especially when the call is this tough and the committee this divided.

In closing.

It’s not about the dot plot or the new Chair. It’s about getting monetary policy right. Markets do not need the Fed to telegraph its next move—the world is changing too fast for explicit forward guidance to make sense. Instead, they need to see how the committee is weighing a genuinely hard call. A hold, paired with signs of a robust debate, shows that the Fed sees the inflation problem and is carefully crafting its response. A hold that hides the debate conveys far less, and forces markets to fill the silence with guesses. That uncertainty is not free—it shows up in borrowing costs. At a time when the best approach to inflation is unclear, the most reassuring thing the Fed can do is show us the range of its thinking.