Webinar summary

HADDAD: New US Fed chair Warsh used his June opening introduction to markets to deliver a hawkish interest rate hold and outline his firm commitment to the Fed’s two percent inflation target. Warsh appears willing to keep rates higher for longer to ensure that inflation returns to target. Indeed, we believe there is a decent prospect of a 50-basis point interest rate increase by the end of this year. Warsh’s pronouncements also helped rally US Dollar to fresh cyclical highs. Scott, could you comment on what all this might mean for the wider US economy?

CLEMONS: It was good to hear renewed Fed commitment to price stability though we do see some US economic storm clouds gathering. In particular, it will be interesting to see how the Fed navigates economic challenges such as persistent US inflation, the rise of artificial intelligence (AI) and its impact on productivity and the labor market. Geopolitics also matters. Even if the US/Iran war and related supply chain challenges were solved tomorrow, the oil shock the conflict initially created will take some time to unwind.

HADDAD: Are there any other areas of potential economic weakness investors should be aware of?

CLEMONS. Growing concern about the domestic US labor market and financial stress at the household level are feeding into wider market uncertainty. Two thirds of the US economy hinges on domestic consumer spending. This means it is important to watch the labor market as it is the main source of income for the vast majority of US consumers.

HADDAD: How does all this relate to wider investment market challenges?

CLEMONS: While wages mainly drive consumer spending, financial markets can also affect spending patterns. A third of US spending decisions are made by 10 percent of the richest American households. I am curious to see if any downturn in equity markets translates into a downturn in the real economy as well.

HADDAD: Could the economic challenges you describe lead to downward rate adjustments by the Fed?

CLEMONS: While the US market does face some challenges the good news is that we are not seeing a replay of the 2007-2009 global financial crisis. How the Fed addresses the US economy’s challenges while tackling looming economic concerns with the notion of “higher for longer” inflation will be interesting to watch. Keep in mind this is also an election year. With the US midterms looming it looks unlikely the Fed will make any changes to monetary policy between now and the elections if they can help it.

HADDAD: In his opening, Warsh made it clear the Fed’s so-called “forward guidance” on strategy, including its quarterly charts or “dot plots” on interest rates will be more limited under his tenure. What did you make of all this, and do you see any implications in the potential lack of future Fed guidance?

CLEMONS: It does seem clear we are heading into a future where there will be less communication and overt directional guidance from the Fed. Whether that does away with its economic projection announcements altogether is something we will find out in coming months. If so, market participants will be left to make their own inferences. That, in itself, could become a fresh source of market volatility.

HADDAD: On market communication we see Warsh moving towards a position of “strategic ambiguity”, illustrated by not submitting his own dot plot to markets and his apparent aversion to forward guidance. We believe this move towards strategic ambiguity could lead to bigger swings in the Fed’s funds future curve, especially around key policy relevant data releases.

CLEMONS: During the global financial crisis Fed communication was a powerful tool. While markets are more benign now, at some stage Fed officials may find themselves wishing they still had that tool. More positively, there are signs the Fed is reviewing the data sources it relies on for its forecasts, thinking and interventions on trends such as productivity. I have long believed that the statistical methodology of measuring so much of the US economy has not kept up with evolution of the economy itself and change may bring improvements depending on the tools the Fed employs.