These “dot-plot” projections are not voted on—nor do they represent official policy Figure 2. But they do show the divergent opinions by some of the committee members. In fact, the market may have interpreted the changing projections as a shift in the way some committee members are interpreting the Fed’s new Average Inflation Target (AIT) mandate. That some members think interest rates should move higher next year is a notable difference from what some Fed members have repeatedly said: that they want inflation to run above 2% for some time before they raise interest rates.
What Do Hawks And Doves Have To Do With Monetary Policy?
While Jerome Powell is the chairman of the FOMC and likely the most recognizable member, there are 18 other members within the committee (and also one vacant position). Anyone who has been part of a big group setting knows that getting everyone in total agreement is nearly a Sisyphean task. Since 2014, though, there has not been a single dissenting, recorded vote cast by any voting member. However, some recent public comments and the recently released dot-plot may show that not everyone is in total agreement with the direction of current monetary policy. For example, Dallas Fed President, Robert Kaplan, often thought of as one of the most hawkish members of the committee, has repeatedly stated that the Fed should start to reduce or even eliminate its purchases of mortgage securities “sooner rather than later.” Others on the committee, including Powell, continue to defend the mortgage purchases. While Kaplan is not a voting member, he does provide input into policy decisions.
What does it mean to be “hawkish” or “dovish”? Hawkish Fed members are generally concerned about inflation first, and want to start to tighten monetary policy through interest-rate increases and/or the tapering of bond purchases. Doves are those members who want to continue to provide accommodative monetary policy to support the economic recovery. Of the 19 current members, seven can be classified as dovish, eight as neutral, and four as reliably hawkish. Not all 19 current members are voting members. There are currently 11 voting members (there is one vacant voting position) and of those 11, five members are reliably dovish—including Chairman Powell and Vice Chair Richard Clarida—and six members are rated as neutral. So, given the tendencies of the group broadly, the likely cause of the negative initial reaction in the bond market last week is that so many participants now think raising interest rates should occur in 2023. That the overall committee may have become more hawkish is notable. The concern now is that the Fed may speed up the removal of accommodative monetary policy and react sooner than markets are anticipating.
Conclusion
Inflation has certainly been the word of the year. Consumers and investors have seen and felt the impact of inflation. But the structural headwinds that have kept inflationary pressures at bay for decades are still in place. We do think inflation will be elevated over the rest of 2021 and possibly into 2022 before it really starts settling down, but that’s still consistent with inflation being transitory. How the Fed reacts to the data will be interesting, though. We continue to watch closely the risk associated with the Fed acting out of concert with what markets are expecting. Over the next few weeks we’re likely to hear from a number of Fed officials, so we’ll get more clarity on how thinking has changed recently. As such, it will be important to see who on the committee has become more hawkish. If it’s actual voting members, then markets may start to get more concerned.
Lawrence Gillum, CFA, is a fixed income strategist at LPL Financial.