WEBVTT - Bloomberg Opinion Contributor Bill Dudley Talks 'Warsh’s Approach to Fed PolicyIs Deeply Flawed' 0:00:02.480 --> 0:00:07.040 Bloomberg Audio Studios, podcasts, radio news. 0:00:07.240 --> 0:00:09.320 The former New York Fed President Bill Dudley with a 0:00:09.360 --> 0:00:11.880 new op ed titled Watch's approach to Fed policy is 0:00:11.920 --> 0:00:15.760 deeply flawed. He writes, outsourcing monaetment policy to financial markets 0:00:15.880 --> 0:00:19.320 is a terrible idea. Watsh missed an opportunity to rebuild 0:00:19.360 --> 0:00:22.319 the Fed's credibility. Bill joined just now for more, Bill, 0:00:22.360 --> 0:00:24.640 welcome to the program. We were all watching that news 0:00:24.640 --> 0:00:28.080 conference and it didn't start terribly and then progressively it 0:00:28.200 --> 0:00:30.560 just got more and more confusing. What was the point 0:00:30.600 --> 0:00:32.760 in that news conference where you sat up and said 0:00:33.320 --> 0:00:33.960 this is weird. 0:00:35.120 --> 0:00:38.280 Well, it's weird when you're not explaining why three people 0:00:38.320 --> 0:00:41.960 are dissenting, yet the committee is deciding and changing policy. 0:00:42.040 --> 0:00:44.919 There really was virtually no information about how the Fed 0:00:45.000 --> 0:00:47.640 Reserve is thinking about mandre policy, how the Fed Reserve 0:00:47.720 --> 0:00:50.479 is likely to react to incoming information in terms of 0:00:50.520 --> 0:00:54.800 how they adjust Manjari policy. The silence of Worsh was 0:00:54.800 --> 0:00:58.240 really quite deafening, and the financial markets, you know, basically 0:00:58.360 --> 0:01:00.440 said thumbs down. I mean, the fact that thirty year 0:01:00.520 --> 0:01:02.440 yield went up to ten year wheel went up and 0:01:02.440 --> 0:01:05.560 two year yields dropped really was a sign that there 0:01:05.640 --> 0:01:08.280 was a loss of credibility in that from that press. 0:01:08.000 --> 0:01:10.360 Conference, Bill, I want to highlight a distinction because I 0:01:10.360 --> 0:01:12.520 think it's important and it's in the body of your OPAD, 0:01:12.560 --> 0:01:14.440 and I want to say it for you. You're not 0:01:14.520 --> 0:01:18.399 against reducing forward guidance. This is important. I think that 0:01:18.480 --> 0:01:21.720 the complaints about the people doing the complaining often or 0:01:21.760 --> 0:01:24.319 around the idea that somehow we still want our hands 0:01:24.319 --> 0:01:27.120 being held, that we want to hold on to the 0:01:27.160 --> 0:01:30.040 post GFC communication architecture. And Bill, I don't think that's 0:01:30.080 --> 0:01:32.120 what your criticism is about. 0:01:33.040 --> 0:01:33.120 No. 0:01:33.280 --> 0:01:36.520 I mean I wrote a group of thirty paper that 0:01:36.560 --> 0:01:38.800 we published in April, and one of the recommendations was 0:01:38.800 --> 0:01:40.960 to get rid of four guides. The only time we 0:01:41.000 --> 0:01:42.760 really need four guides is when you're at the zero 0:01:42.840 --> 0:01:44.640 lore bound for interest rates and you're trying to provide 0:01:44.640 --> 0:01:47.760 additional monetary policy stimulus. But the rest of the time, 0:01:47.880 --> 0:01:50.000 it really just sort of inhibits the FED and probably 0:01:50.040 --> 0:01:52.080 makes the FED a little bit slower to react to 0:01:52.160 --> 0:01:55.520 incoming information. But that doesn't mean you don't want to 0:01:55.520 --> 0:01:58.160 know what the FED monetary policy reaction function is. And 0:01:58.160 --> 0:02:01.360 I think that's the real problem, and it's comments is 0:02:01.400 --> 0:02:03.760 conflating the two and they're very very different. If I 0:02:03.760 --> 0:02:05.600 don't understand how the feder reeser is going to react 0:02:05.640 --> 0:02:09.000 to incoming information, I can't price financial markets correctly. And 0:02:09.040 --> 0:02:11.640 it's also creating a lot of uncertainty about what policy 0:02:11.720 --> 0:02:12.799 is going to be in the future. 0:02:13.120 --> 0:02:13.400 Uh. 0:02:13.480 --> 0:02:16.600 You know, the market response on on Wednesday was really 0:02:16.960 --> 0:02:20.880 FED credibility has lessened, and I think this is a 0:02:21.000 --> 0:02:21.919 really own goal on. 0:02:21.919 --> 0:02:22.959 Kevin Warsh's part. 0:02:23.520 --> 0:02:24.960 You know, I think when one of the problems here, 0:02:24.960 --> 0:02:27.400 I think is these over promised and under delivered. 0:02:27.600 --> 0:02:28.400 You know, you've talked. 0:02:28.200 --> 0:02:31.320 About you know, sea change at the FED, radical regime change, 0:02:32.000 --> 0:02:35.280 but then the markets are actually getting very very little 0:02:35.400 --> 0:02:37.000 in terms of guidance on how to think. 0:02:36.800 --> 0:02:38.000 About the new FED. 0:02:38.160 --> 0:02:40.360 Well, we were discussing about whether maybe some of this 0:02:40.520 --> 0:02:43.040 was by design. There is going to be more volatility. 0:02:43.040 --> 0:02:45.160 There has been more volatility both at the front end 0:02:45.240 --> 0:02:48.280 and the long end, in response to every economic data 0:02:48.280 --> 0:02:50.680 point and comment coming from anyone on the Federal Reserve 0:02:50.960 --> 0:02:53.280 as a result of an absence of some sort of 0:02:53.320 --> 0:02:56.760 reaction function articulated by the FEC chair. Do you think 0:02:56.760 --> 0:02:58.919 that this could be by design to help reduce inflation 0:02:59.000 --> 0:02:59.960 without hiking rates. 0:03:01.040 --> 0:03:03.200 I don't think this is a really great strategy for 0:03:03.240 --> 0:03:03.919 a couple of reasons. 0:03:03.960 --> 0:03:08.639 Number one, it's a very inefficient way of tightening financial conditions. Basically, 0:03:08.680 --> 0:03:10.839 you're driving up risk breming in markets. That's a dead 0:03:10.840 --> 0:03:13.840 weight loss to the economy. Number Two, how well can 0:03:13.880 --> 0:03:17.040 you actually control the market process to degenerate the impulse 0:03:17.040 --> 0:03:20.880 that you want to slow the economy down so sufficiently? 0:03:21.200 --> 0:03:23.720 And lastly, you know it's a credibility issue. I mean, 0:03:23.760 --> 0:03:24.680 if the extent that. 0:03:24.639 --> 0:03:26.600 The market's reacted the way they did on Wednesday, that's 0:03:26.600 --> 0:03:28.880 telling you that people are more worried about the Fed's 0:03:28.919 --> 0:03:32.520 resolved to do the job. That means inflation expectations are 0:03:32.600 --> 0:03:35.280 less well anchored than they were prior to the press conference. 0:03:35.560 --> 0:03:37.600 That in itself makes the Fed's job harder. 0:03:38.000 --> 0:03:39.720 Bill, how high is the bar for there to be 0:03:39.960 --> 0:03:42.840 I don't want to say mutiny, but the bulk of 0:03:42.880 --> 0:03:47.200 the FMC committee voting against the chair potentially with the Governor's. 0:03:46.840 --> 0:03:49.520 Joining suit, I don't think we would get to that. 0:03:49.560 --> 0:03:52.320 I think at that point worksh throwing the tonnel and 0:03:52.400 --> 0:03:55.360 vote with the majority. I can't imagine a situation where 0:03:56.200 --> 0:03:58.960 the chairman allows themselves to be outvoted by the committee, 0:03:59.120 --> 0:04:01.640 because if you had that result, it basically would be 0:04:01.720 --> 0:04:03.840 saying that the chairman has lost control of the committee, 0:04:03.880 --> 0:04:07.400 and that's just not a very good look for any organization. 0:04:07.640 --> 0:04:07.880 Bill. 0:04:07.880 --> 0:04:10.360 It was also vague about the inflation target. That was confusing. 0:04:10.400 --> 0:04:14.000 Too vague on the inflation target, whether they'd respond to it, 0:04:14.560 --> 0:04:16.760 and what's aol they would use to respond? Can I 0:04:16.800 --> 0:04:19.080 pick up on that last point? Bill, he's flirting with 0:04:19.120 --> 0:04:22.000 the idea of using balance sheet instead of short term 0:04:22.000 --> 0:04:25.159 policy rights. Sure, right, Well, what do you think of it? 0:04:25.680 --> 0:04:25.800 Well? 0:04:25.839 --> 0:04:27.320 I think the problem here is that even if you 0:04:27.360 --> 0:04:29.800 reduce the balance sheet, you're probably going to be reduced 0:04:29.880 --> 0:04:32.560 by about a trillion dollars or so if you want 0:04:32.600 --> 0:04:34.919 to continue to have an ample reserves regime, and I 0:04:34.920 --> 0:04:37.280 think the commandment of the Committee is to maintain the 0:04:37.320 --> 0:04:39.480 ample reserve regime. And then the question is how much 0:04:39.480 --> 0:04:41.599 restraint is shrinking the balance sheet by a trillion dollar 0:04:41.680 --> 0:04:42.120 is going to be. 0:04:42.400 --> 0:04:43.880 It's actually gonna be very very small. 0:04:44.160 --> 0:04:45.880 So the idea that you know, you pull on this 0:04:46.560 --> 0:04:49.000 balance sheet lever and that allows you to not have 0:04:49.080 --> 0:04:52.120 to tighten monitar policy, I think is very much exaggerated. 0:04:52.320 --> 0:04:54.240 It's obvious that for the market, the primary tool is 0:04:54.240 --> 0:04:55.920 still the policy, right because you can see that in 0:04:55.960 --> 0:04:58.400 the reaction this morning to the sense of economic takes 0:04:58.400 --> 0:05:00.680 that we've got moments ago on way they came in 0:05:00.720 --> 0:05:03.360 hotter labor costs. You saw yields rise at the front 0:05:03.440 --> 0:05:05.960 end of the curve. But we talked about this all morning, 0:05:05.960 --> 0:05:08.760 the credibility hit. You say credibility has been hit. Others 0:05:08.839 --> 0:05:11.360 agree with you. Let's talk about how you repair it. 0:05:11.760 --> 0:05:14.599 When you do a job really badly, sometimes you have 0:05:14.680 --> 0:05:16.720 to do more than you otherwise would have had to do. 0:05:17.160 --> 0:05:18.920 How much more do they need to do now at 0:05:18.920 --> 0:05:21.680 this fuller reserve to regain that credibility? 0:05:22.880 --> 0:05:25.279 Well, I think you have to follow up talk with actions. 0:05:25.279 --> 0:05:28.000 So I think that what's happened in financial markets over 0:05:28.040 --> 0:05:30.400 the last you know, seventy two hours or so basically 0:05:30.640 --> 0:05:33.200 increases the pressure on the Fed to act in September. 0:05:33.279 --> 0:05:36.279 If it's a jump ball in September, you almost need 0:05:36.279 --> 0:05:39.560 to tighten now because you've have lost credibility over the 0:05:39.600 --> 0:05:40.480 last couple of months. 0:05:40.560 --> 0:05:42.080 Do you think that it increases the chance of a 0:05:42.160 --> 0:05:43.600 larger than expected great hike? 0:05:45.040 --> 0:05:47.320 It's possible, but I don't think that you're so far 0:05:47.360 --> 0:05:50.800 away from your inflation objective that you know you need 0:05:50.880 --> 0:05:53.679 sort of shock therapy. If the feder Reserve did fifty 0:05:53.720 --> 0:05:56.120 basis points move, that would be, in my mind, a 0:05:56.120 --> 0:05:58.200 little bit of a sign of desperation. Why didn't why 0:05:58.240 --> 0:06:00.839 didn't you hike in July? You do ffty basis points 0:06:00.800 --> 0:06:03.719 at sentebor. I think that's actually it is a confusing 0:06:03.800 --> 0:06:04.640 narrative as well. 0:06:05.160 --> 0:06:08.000 What do you think the overall motivation is here? I mean, 0:06:08.000 --> 0:06:10.280 we've been talking about this and a lot of people 0:06:10.360 --> 0:06:13.200 said Kevin worsh is a one hundred percent respected person 0:06:13.279 --> 0:06:17.600 by the mainstream of the financial markets, by the establishment. 0:06:17.960 --> 0:06:20.960 Do you think this is just rookies error, the classic 0:06:21.120 --> 0:06:23.960 kind of first press conference of a FED chair Or 0:06:23.960 --> 0:06:26.360 do you think that there is some political motivation here 0:06:26.440 --> 0:06:28.680 trying to dodge the ire of the president going into 0:06:28.680 --> 0:06:29.680 the midterm elections. 0:06:30.720 --> 0:06:33.640 I can't judge that, but I generally think no, that 0:06:33.640 --> 0:06:35.479 he's not trying to do it to sort of modify 0:06:35.560 --> 0:06:36.120 the president. 0:06:36.400 --> 0:06:37.919 I think he really does believe. 0:06:37.640 --> 0:06:41.120 That somehow outsourcing this to financial markets will improve the 0:06:41.160 --> 0:06:43.560 conduct of monetary policy. But you can't outsource it to 0:06:43.600 --> 0:06:46.640 financial markets for a very simple reason. Markets don't price 0:06:46.680 --> 0:06:48.720 to what the FED should do. They priced to what 0:06:48.760 --> 0:06:50.839 they think the FED will do. And so if you 0:06:50.920 --> 0:06:52.680 try to assource at the markets, all you have is 0:06:52.680 --> 0:06:55.000 the market's looking the Fed, the Fed looking at markets, 0:06:55.040 --> 0:06:57.320 and the interest rate death is indeterminate. 0:06:57.720 --> 0:07:00.080 So it doesn't work that we were talking about yesterday, 0:07:00.200 --> 0:07:02.000 which is everyone's pointing at each other. 0:07:02.080 --> 0:07:04.240 And I saw a couple versions of that Fed. 0:07:04.560 --> 0:07:06.320 I'm sure you did, but it's good to say it. 0:07:06.360 --> 0:07:07.919 Thank you, buddy, go down be there, the former New 0:07:07.960 --> 0:07:10.560 York FED president. Thank you very much, sir, appreciate your time.