Three words from Kevin Warsh have Wall Street wondering how far the Fed will go with rate hikes

With a few carefully chosen words, Federal Reserve Chairman Kevin Warsh both explained this week's decision to hike interest rates and raised vexing questions about what comes next.

Warsh described Wednesday's decision to lift the central bank's benchmark rate by a quarter percentage point not specifically as a tightening of policy but rather as removing "a dose of accommodation." Further, he said the move was possible because of a U.S. economy that appears to have "strengthened" and financial conditions that have become less restrictive.

While the language may sound like central bank semantics, it gets to the heart of what markets are debating now: How far will the Warsh Fed go if it has only removed a "dose" of help, and what are the guidelines it will be using to formulate policy?

The phrase was "the one stand-out hawkish element" of Warsh's post-meeting commentary to the press, Krishna Guha, head of economics and central bank strategy at Evercore ISI, said in a client note.

"This was not a mistake; it was a phrase he repeated several times and looked very much a deliberate choice to frame policy in this way," Guha added, noting that "the framing is substantively different to that used by the Fed in recent years, and raises the possibility of a more open-ended approach to the number of hikes that might be required."

That framework has included a calibration of where policy should sit relative to the so-called neutral rate, one that neither boosts nor holds back growth. By extension, benchmark rates that sit well above the neutral rate are considered restrictive, while those closer to or below neutral are regarded as accommodative.

Warsh's framing of the hike as removing "a dose" of accommodation could be seen as the first of multiple steps toward withdrawing support the Fed no longer feels is necessary. The Fed is looking to return inflation to 2%, and policymakers generally consider raising rates as a way to tamp down demand and control price pressures.

"Warsh's framing, if taken literally, raises the possibility that rates might have to keep going up until financial conditions facing the private sector are no longer 'accommodative' — however that is defined," Guha said. "This is a relatively open-ended prospect."