Investors Are Betting the Fed Will Beat Inflation. A Wall Street Columnist Says Don't Count On It.

WASHINGTON —

Federal Reserve Chair Kevin Warsh says he is committed to bringing inflation back down to the central bank's official target of 2%, with no exceptions. Wall Street bond markets appear to be taking him at his word, but at least one prominent financial columnist is urging investors to think twice.

"Let me reiterate: There is no soft inflation target. There is no soft implicit target. Not on this committee's watch," Warsh said at a press conference on July 29, according to MarketWatch. "There's only a target, and it's 2%."

What the market is pricing in

MarketWatch calculated Wall Street's inflation expectations by comparing yields on Treasury bonds that protect against inflation with yields on ordinary Treasury bonds that do not. That gap, known as the breakeven rate, currently points to average inflation of about 2.25% over the next 10 years, MarketWatch reported. In plain terms, investors expect the Fed to get inflation close to its 2% goal and hold it there, with only a thin 0.25 percentage point cushion built in.

That is a vote of confidence in Warsh and the Fed's ability to control prices over the long run, even as the central bank navigates a new chairmanship and continued scrutiny over its policy path.

Why one columnist is skeptical

Brett Arends, writing in a MarketWatch opinion column, argued that the federal government has its own reasons to want inflation to run hotter, not cooler. In his view, inflation, more than economic growth alone, is what Washington needs to shrink a debt load that keeps climbing. Higher inflation effectively lowers the real value of existing debt, making it easier for the government to pay down what it owes in today's dollars, according to the column.

Arends did not dispute that Warsh wants to hit the Fed's 2% target. His argument is that the incentives facing the government's finances could work against that goal over time, potentially putting pressure on the Fed to tolerate inflation running above the level Wall Street currently expects, according to the column.

MarketWatch did not report a specific figure for the size of the federal debt or a timeline for when that pressure might show up in Fed decisions. Warsh, for his part, has given no public indication that he intends to soften the 2% target, based on his July 29 remarks.

The disagreement leaves investors with a bet to make: trust the Fed's stated target, or bet that fiscal reality eventually forces its hand.