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Based on that hearing, and I know it's difficult to make hard-based and big conclusions right now, but based on that hearing, what are your takeaways and what changes are you anticipating at the Federal Reserve? Yeah, I don't think the hearing itself was not very surprising. It's a lot of political theater that we're used to. I thought Kevin Warsh was well prepared. He had some zippy answers to difficult questions, which is what you need in this situation. So I think in a different era, this would go by voice vote, you know, through the Senate. But we're not in that era. And so it's going to be tied up a little bit longer. I won't draw you into the politics. Of course, we know why this might be an extended battle to get him confirmed. But ultimately, for many people, it's a matter of when and not if. Jim, when he does get in, can we talk about communication? Because you yourself, when you were on the committee, you had your own issues with the dark plot of the Federal Reserve, the forward guidance. We've been living in the post-GFC communication regime for a long, long time now. What changes do you think need to happen? I think you could definitely improve the dot plot. The committee has had a hard time coming to grips with that. I'm not sure what Kevin wants to do with that, but I think it could be done better. The main thing you should really do here is just move to a monetary policy report that would be quarterly. That's what other central banks do. That's an international standard. You don't have to divine everything from a few dots. you can have a more fulsome report on all the things that are going on in the economy, including the war or if there's weather or whatever else is going on in the economy. You can talk about that in a monetary policy report. So a good thing for him to do would be to come in and say, hey, we're just going to replace the dot plot with a monetary policy report the way other central banks do it. Jim, how do you think the committee will feel about that? Will they get on board? I would hope so. I think time has come for this. The dot plot was put in relatively quickly, I think. I think Ben Bernanke thought that he could make modifications to it, but then it kind of devolved into stalemate. And that's where we are today. And that's why you've got this kind of mystical dot plot that we use. He talks about regime change, but can you translate in details what else we could see out of a Kevin Warsh Federal Reserve? I think on the communication, he equivocated a little bit on press conferences. So we'll see. I've been an advocate of press conferences. I think that also, I think, is an international standard. Everybody does it, every meeting. So I think it would be hard to pull back from that. That would be a reduction in transparency. Markets aren't going to be too happy about that. other types of communication. I mean, maybe you could change it a little bit, but I think the cat's out of the bag. The era of transparency has been very important to markets. I don't think you can go back to the Greenspan era, which sometimes I get the impression that there's a little bit of wishing for that era. And I lived through that too, and I loved it too, but I think it'd be very tough these days. Sometimes it's difficult to put the toothpaste back in the tube, Jim. You know that. Jim, I want to talk about balance sheet policy. It's clear that the incoming Fed chair, if he's confirmed, once he's confirmed, has an opposition to the way the balance sheet's been used, particularly after GFC. It's obvious to us why it was used in the way it was once you got to the zero lower bound, you started to lean on balance sheet a little bit more. His commitment to doing something about that Jim how are you envisioning that going to look in the next several months and potentially several years Yeah I think it would take years I think he could put the ball in motion I think the Fed could operate with a smaller balance sheet You don have to have it the way it is today But he would have to get consensus on the committee. You'd have to work carefully with markets. But I think it could be done in a way that didn't disrupt activity and allow the Fed to carry on in other aspects as they have. Jim, one element of his argument, one dimension of it, is that using the balance sheet and the way it's used has pulled the administration, pulled the Federal Reserve into politics. I'd make a counterpoint that the short-term interest rate is only one tool and it's limited in its effectiveness. And that's why you yourself started to lean on the balance sheet to attack longer-term interest rates. Jim, if they put more emphasis on short-term rates, what does it tell you about their ability to really influence the U.S. economy more broadly? Yeah, the story of the balance sheet is really the story of the effective lower bound or the zero lower bound. So, it's only in those situations that you might want to come back to balance sheet policy. And we saw it pretty recently, right? The pandemic, we slammed the interest rate down to zero and went right into QE-type policy. And I think that would happen again if you got some big shock in the years ahead. And so I think the committee should just be forthright about that and say that that's what they plan to do. But I think what, to be fair, I think Kevin Warsh has been a vocal and adroit critic of, you know, once that is over, that you don't need the gigantic balance sheet anymore, and you should have a policy of getting it back to a normal size so that you have more scope in the future. And I think that is a reasonable thing to say. Forgive me, you're suggesting it's still going to be a crisis here at all. Is he? I don't know what he says about this, so I won't put words in his mouth. But I would say if you've got a pandemic-sized shock or a financial crisis-sized shock, I would bet that that's the direction the committee is going to go and markets would expect it, global financial markets would expect it. So if they're not going to do that, then I think you should say, hey, we're swearing off this tool. We don't need it anymore. Here's what we're going to do in a crisis. Stay with us. More Bloomberg Surveillance coming up after this. When the rest of the markets slow down, the futures market keeps moving. Did you know that CME Group S&P 500 and NASDAQ 100 futures trade nearly 24 hours with great liquidity? In the ETF markets, volume and liquidity lessens after 4 p.m. until the next morning. But with futures, you get trading opportunities both day and night. Learn more at cmegroup.com slash equity futures. As markets move and headlines break, what matters most is context. A Bloomberg subscription gives you unmatched reporting, sharp analysis, and powerful tools that help you connect the dots. Visit Bloomberg.com slash podcast offer to learn more. I'm pleased to say we're joined now by the former Defense Secretary, Mark Esper. Mr. Secretary, welcome back to the program. Appreciate getting some time with you, sir. Many people like yourself have made the case that these strikes made sense because Iran was unwilling to give up its enrichment program. A lot of people understand that perspective. Mr. Secretary, do you think they're any more serious this morning about giving up that program? No, it does not appear to be the case right now. I mean, clearly we're at an impasse. And the key issues at this point seem to be the control of the Strait of Hormuz, which Iran is asserting sovereignty over. And then secondly, of course, the nuclear program. And when I say that, it's everything from the 1,000 pounds or so of enriched uranium that's there in the country. It's the infrastructure that supports it to include the cascades. It includes, in my view, we need to get inspectors back in. So to me, those are the two core issues. And Iran has always said and continues to state that they have a sovereign right and a right under international law to enrich uranium. So to me, those are the main points right now that both sides are fixed on. And that was the point, of course, at least the nuclear, that disrupted talks nearly eight weeks ago in Geneva. This has been a longstanding problem, Mr. Secretary. Clearly, certain elements of the military campaign have been successful. One objective was to degrade the military capability of Iran. Without a doubt, we've seen that happen to a certain extent. What can happen now? What can the U.S. do to exert additional pressure? And through what means to get Iran to come to the table and achieve the other objectives? Yeah, it's a good question. First of all, while the decapitation of the regime was successful, what it did was change the leadership. And rather than put in a more pragmatic group of people, it put in a more hardline group of people. And of course, the IRGC has asserted more control. So now we have a regime that seems seemingly more willing to dig in, although the claims that there are fractures within the government right now tend to be true. But I suspect they kind of wrap that up pretty quick My sense again is that at this point each side is going to stick to its positions with regard to the blockade to control the strait And we'll see who breaks first under economic pressure. We know, of course, the impact it's having on the West with countries who are net importers of oil, particularly in Asia, are suffering, are tightening their belts. We know that jet fuel is going to start becoming pretty scarce here in a matter of weeks. And there are other effects such as fertilizer and helium and whatnot. But on the other hand, Iran gets $450 or so million a day from its oil exports. So how long can it hold on? So I think each side is staring the other down to see who blinks first. And Trump has said, look, he'll wait for a counterproposal, although there's some early reporting this morning that he said we'll give him three to five days, which would take this until next Monday or so. So you don't think the regime is as fractured right now as some of the reporting suggests? In the next few days, can we see them speak with maybe more of a unified voice and show up to these talks? I suspect so. They need to. I mean, you know, the talk now is that the speaker, Galibov, is more the pragmatist here. But keep in mind, he was an IRGC commander, so his roots go back. And Moshtaba Khamenei, who we haven't seen, also has a close relationship with the IRGC. So I think there was some problem with messaging. I suspect they'll get on the same sheet of music. If not, it'll be interesting to see how that plays out with regard to the Iranian government. But again, the IRGC has the guns, and usually the guys with the guns play the tune. Exactly. Jonathan was mentioning how the financial markets, at least for some of them, holding on to that report that maybe the United States was willing to give up the blockade. How long do you think the U.S. could sustain this blockade? I think we can sustain it indefinitely. The United States military definitely has the capability, the Navy, to do so, particularly with regard to how they're postured in the Gulf of Oman and beyond that, and the ability to reach internationally to do that. Look, it's hard to see President Trump backing down on the blockade unless Iran does the same. And what I mean by that is Iran has to back off this claim that somehow the new routes will go right along their coastline, in between their islands, that there has to be permission from the IRGC first before you approach those lanes. And then, of course, we know they've been trying to charge or have charged $2 million or so per ship to transit. That cannot happen. We have to return in one way, shape, or form to the status quo ante to get back to something that's reasonable with regard to a future agreement going forward. There are reports in the Financial Times as well as Bloomberg about some Iranian vessels being able to get through the blockade, turning off their tracking devices. How hard is it for the U.S. Navy to track some of these ships if they do do that, turn off and go dark? Look, we can see these ships with overhead surveillance from drones, from satellites. You know, we obviously have radar. We can track these ships. That's not an issue that they turn off the transponders. It's just a matter of making sure that we can pick them up and then do what we need to do. Of course, we saw the other day the dramatic footage of the U.S. Navy taking shots, disabling a ship and eventually boarding it. So I have complete confidence in the United States Navy to do that. And now, of course, we see the Iranians are reciprocating by seizing two ships and took shots at a third one in the last 24 hours or so. So this has had possibility to really heat up with regard to the innocent players in the Gulf, the hundreds and hundreds of ships that are stuck up in the Persian Gulf trying to make that run or believing that they got the okay to do so and eventually get captured by the Iranians. If the U.S. Navy has the ability to go after these vessels that shut off their transponders, why are they letting some of them through? Is that an economic decision for some partners in Asia? I'm not sure I believe the Iranians that ships are getting through. I think we need that. Those are good questions to ask of the administration. Maybe some are being let go, but I doubt it. I think that may be more propaganda from the Iranians. Mr. Secretary, in some ways, you're on the outside looking in now. And I can tell you it's difficult sitting in this seat to understand what's real, what isn't, what is just part of the negotiations ahead of potential talks about talks. From your vantage point with the experience you have, what is guiding you and the way you're thinking about the trajectory of things? Well, look, clearly, again, we have a more hardline regime in here. And a lot of what they're doing is messaging to the domestic audiences, messaging to others within the government, trying to get the word out. In my experience of sitting in the situation room dealing with the Iranians is they do put on, they do make public statements. and then they have private statements or domestic messaging that is far more hard line. So you have to sift through those two things. But on the other hand, the administration's messaging has been all over the map as well. One day it's threatening, the next day it's conciliatory, the next day we talk about deploying more forces, and then we're talking about backing off. So both sides, there are mixed messages coming from both sides. But I think it's clear, though, that both sides don't want to go back into a hot conflict in terms of exchanging missile shots, drone shots, air attacks, but neither do both sides want to blink first. So we're really at this impasse and we'll have to see what happens. I'm sure behind the scenes, countries, certainly the Pakistanis, Europeans, maybe even the Chinese are trying to get both sides into some place where we can get an agreement to lift this blockade of the Strait of Hormuz because the folks paying right now are everybody else as well right Certainly the Asian economies and to a lesser extent the European economies, but gas prices, oil prices, the price of diesel fuel, which transports so much of our goods, has gone up all around the world. Mr. Secretary, appreciate your time. Thank you, sir. The former Defence Secretary there, Marques Berwankin on the war in the Middle East. Stay with us. More Bloomberg surveillance coming up after this. This is the take from Stephanie Roth of Wolf Research, writing the following. Walsh struck a more hawkish tone than we had anticipated. The one notably dovish element, however, was his emphasis on trimmed mean inflation, suggesting its framework may be evolving. Stephanie joins us now for more. Stephanie, good morning. Good morning. It's difficult to draw big conclusions from a testimony that you know has various different audiences, and it's not just Wall Street. How are you untangling some of that? Yeah, so we were looking through the details, right? Because you're right, there's a broad range of audience. There's Congress, there's the president, there's market participants. The point on trimming inflation, I think, was an interesting one because we haven't found in his history that that's something that he is focused on primarily. However, that is one evidence of the inflation basket that is running below core PC inflation. It's running about 2.3% year-over-year compared to Core PC, which is running closer to 3. So it seems like an element of perhaps cherry-picking some of the data that aligns with the view that he ultimately will want to have in order to convince the Fed to be cutting interest rates when he actually takes the office. Which reinforces his first line, which is inflation is a choice. You just choose what you want to look at. Right? Seems to be the takeaway. That's true. A focus on interest rates and not the balance sheet. It's this opposition to the balance sheet that I find interesting. Does he have some company on the FOMC? And ultimately, what's he trying to achieve? Yeah, I mean, I think it's going to be a lot more modest in terms of what he actually gets done. The way he talked about it, it sounded like it would be a very gradual move. And you're starting to hear some more FOMC members talk about, you know, potentially slightly lower balance sheets. So I think he will eventually be able to get something done from that perspective. And he made, you know, convincing arguments about interest rates being a tool that impacts more people as opposed to market participants, which is more tied to the balance sheet. So that is something he will likely make some changes on. He'll likely make changes to communication. That was something he emphasized quite a bit. otherwise he's going to be faced with a tough situation because he's going to want to be cutting interest rates and the focus on trimming inflation may not necessarily convince everybody. He also talked about how he almost wants more of a, I wouldn't say transparent, but frank discussion amongst him and his colleagues at the Fed and not all these pre-prepared remarks when they go into the meeting room. I imagine as a market participant, that's exciting. Yeah, it's certainly exciting. It could create a lot of more volatility around FOMC meetings because the way he made it sound is they'll be truly debating in the room, and then they'll come out with a more unanimous statement. So he was looking for fewer dissents, but more debate. And you might end up with some surprises at the end of certain FOMC meetings that could then move markets pretty substantially. Press conference stay or go under Warsh? I think they stay. What would it mean if they didn't, if they went, and you're a market participant? I mean, it's a problem because you don't really get to hear the real insight into what the FOMC is thinking and get to hear really what their framework is. And of course, He certainly does want to pull away some element of the focus in terms of media. But it seems like he's still going to probably keep the press conferences there. There's certain elements of the post-GFC communication apparatus that needs to change. There's certain elements that we've seen officials on that Fed be frustrated with for the best part of a decade. The dot plot being one. Didn't hear much of that yesterday. But there are certain changes that I anticipate that we'll probably make. And it's probably a bad time in the minds of a lot of people watching this program that they make those changes. Yeah, I think that's right. And he made a good comment that, you know, if you're committed to your dot plot, you might be stuck in your forecast for longer than would otherwise be the case. And as somebody who makes forecasts, I understand the idea, but you have to change. You become married to the forecast. Exactly. But you have to change as conditions evolve. And it's easier to do so if you are less, you know, there's less focus on the SEP. What are your thoughts about how he's handling the politics? This sock puppet thing keeps coming up continuously through this morning. And they're going to keep throwing that at him repeatedly in the months to come. I mean, it was very clear he didn't answer the questions that he didn't want to answer, which was a lot of them. But I think we'll be in an environment where he will focus on independence. The question is, to what extent does he end up being more consistent with his own history of being hawkish on inflation compared to what the president wants him to get done? And that's something we don't really know yet. That's who he still is. Do you believe that's who he is still? I believe that's who he still is. And, you know, in his opening remarks, it was much more of a focus on inflation than the employment side of the mandate. He didn't focus on the AI narrative, which is something that he's been talking about more recently, which would be a solid argument for lower interest rates. So that was something we noted as well. I think he's still hawkish by nature. This is the Bloomberg Surveillance Podcast, bringing you the best in markets, economics and geopolitics. You can watch the show live on Bloomberg TV weekday mornings from 6am to 9am Eastern. Subscribe to the podcast on Apple, Spotify or anywhere else you listen. And as always on the Bloomberg Terminal and the Bloomberg Business App.
