NEW YORK (TheStreet) -- The Federal Reserve's attempts at greater transparency have had the unintended consequence of sending mixed signals to markets. As it turns out, at turning points in monetary policy, being opaque isn't necessarily a bad thing.
Though Fed Chair Janet Yellen has provided her personal view on when rates could rise, financial markets don't seem convinced yet. Markets assign a 6% probability that rates will rise in October and believe the odds of a December move are around 35%. One argument for why the Fed didn't act in September is that it didn't want to surprise markets. It is going to be difficult to move expectations noticeably above 50% unless Fed communication improves quickly, with a consensus of December emerging. This will be difficult.
Cracks are visible in Yellen's core group. Federal Reserve Governor Lael Brainard, in a speech Monday, was not only dovish but challenged the views of Fed Chair Janet Yellen. This is significant and could have policy implications if cracks are beginning to form in Yellen's core of policymakers. The other takeaway from Brainard's comments is that Fed communication could be more muddled as December approaches, increasing the odds of a policy mistake by surprising markets.
Since 1995, Fed governors have rarely broken rank by voting against the Fed chairman. Over this span, there have been only two dissents by governors, compared with 76 dissents by regional Fed presidents. Several studies have found that regional bank presidents have historically cast a majority of dissents favoring tighter policies, whereas governors dissented in favor of looser monetary policy. This could be a symptom of political influence given that the governors are appointed by the President and confirmed by the Senate. This is why a completely independent Fed is impossible.
It's difficult for a group of economists, including those on the Fed, to agree on anything. Dissents are often rooted in fundamental disagreements about the impact of monetary policy on the economy and how to implement policy. Dissents also occur over differences on the appropriate stance of monetary policy, which seem to be at the heart of Brainard's comments.
The last time a Fed governor dissented was in September 2005 when then-governor Mark W. Olson wasn't on board with a 25-basis point increase in the fed funds rate to 3.75%. Brainard's comments suggest that she is digging in on her position that the central bank should wait to raise rates and that, if Yellen follows through with her plan to raise rates in December, Brainard would likely dissent. That alone wouldn't hurt Yellen's credibility. But if Brainard gathers support for her views and forces Yellen to abandon her plan, there could be serious consequences.
Tuesday, Fed Governor Daniel Tarullo said it could be difficult to raise rates this year but he doesn't seem as dug in as Brainard. Stronger wage growth and firmer readings on inflation could sway Tarullo. Also, the minutes to the Federal Reserve Board's discount rate meeting showed that eight of the 12 regional Federal Reserve Banks requested an increase in the primary credit rate at the September FOMC meeting. Some of those voting for a increase have presidents that we would view as being centrists and it seems they were leaning toward raising rates in September and would be on board, unless something goes wrong, in raising rates by the end of the year.
Our forecast for a December increase in the fed funds rate is based on comments by Yellen that this is her baseline and she wants to get this process started to avoid having to raise rates aggressively down the road. To raise rates in December, Yellen will have to manage market expectations and also get forge a consensus among the committee members.