Fed's Paulson Keeps Open Mind on Rates, Outlines Two Scenarios for Policy Path

Federal Reserve Bank of Philadelphia President Anna Paulson on Tuesday laid out two scenarios for the path of monetary policy, signaling she is prepared to support higher interest rates if underlying inflation does not show sustained progress toward the central bank's 2% target.

In her first public comments since last week's Federal Open Market Committee meeting, Paulson said in a CNBC interview and an accompanying essay that she views current policy as "mildly restrictive" but is watching incoming data to determine whether further tightening is required.

"I am committed to keeping an open mind as I assess the evidence and determine the appropriate path for policy," Paulson said in a statement released by her bank. "My highest priority is delivering 2% inflation while sustaining full employment."

Paulson voted with the majority at last week's FOMC meeting to hold the benchmark rate steady at 3.5%-3.75%. The decision passed by a 9-3 tally, with three dissenting policymakers favoring a quarter-point hike. Paulson described the vote as "not a close call" for her.

The policymaker estimated that underlying inflation — excluding supply shocks, tariffs and other factors — is running between 2.4% and 2.8%. The Fed's preferred core inflation measure, the personal consumption expenditures price index excluding food and energy, stood at 3.3% in June.

"I need to see progress from here," Paulson told CNBC. "If we don't see that progress, then we have to be open to recalibrating monetary policy. We need to get to 2%."

In her essay, Paulson outlined two plausible scenarios. In the first, further evidence of improving inflation data and stable price expectations would signal that rates are "mildly restrictive" and sufficient to bring inflation back to target "in an acceptable time frame." In the second scenario, if underlying inflation remains stubbornly elevated, "the passage of time without progress would itself signal that more restrictive policy is needed," she wrote.

When asked on CNBC what form a stronger policy response might take, Paulson said it "could be higher rates, could be, you know, same rates for longer."

The recent improvement in inflation data is "welcome," Paulson said, but "it is a step in the right direction, but it is only one step." The Commerce Department reported last week that the PCE price index fell 0.1% in June, with core measures rising less than expected. Inflation-adjusted consumer spending climbed 0.4%, matching the strongest pace since July 2024.

Paulson noted that the labor market appears stable and that inflation remains "too high." She also addressed the impact of geopolitical events on price pressures. Referring to the conflict in the Middle East, she said oil prices have "jumped and remain volatile" but that a brief period of stability demonstrated that supply shocks can be temporary. Using monetary policy to address such disruptions would be ineffective, she argued, because the central bank would act "too late."

"Underlying inflation has been elevated for a long time, and it is what I am most focused on as I evaluate our progress toward the 2% target," Paulson said in her essay.

The Philadelphia Fed president also said she is open to discussing changes to the FOMC's meeting schedule. Chairman Kevin Warsh has raised the possibility of reducing the frequency of meetings from the current eight per year. "It's healthy to have a discussion about that," Paulson told CNBC, according to the network's report.

Paulson's remarks underscore the internal debate at the Fed over whether the current rate level is sufficiently restrictive. While she supports the hold for now, her conditional language leaves the door open for additional tightening if inflation fails to cool further.