At its July meeting, the Federal Open Market Committee (FOMC) left the target range for the federal funds rate unchanged at 3.50%-3.75% for a fourth consecutive meeting.
This was one of the most contested FOMC decisions in recent history, with markets assigning a meaningful probability to a rate hike ahead of the meeting. Three members dissented in favor of tightening policy, highlighting the degree of disagreement within the Committee. While a rate hike this year is not our base case, the outcome suggests investors cannot entirely rule out additional tightening before year-end.
Chair Warsh delivered one of the most confusing FOMC press conferences in recent memory, leaving markets with mixed signals regarding the Fed’s reaction function and policy outlook.
The key takeaways were as follows:
- Chair Warsh remains firmly opposed to providing forward guidance.
- The Chair repeatedly reaffirmed the Fed’s commitment to price stability and its 2% inflation target.
- Despite repeated questioning, Chair Warsh offered little explanation as to why the Committee chose not to raise rates despite ongoing concerns around inflation. This disconnect—between the Fed’s stated commitment to price stability and its decision to remain on hold—has raised questions about the consistency of the policy message. Market reaction reflected this uncertainty, with the 30-year Treasury yield rising to its highest level since 2007 and equities surrendering earlier gains.
- Warsh appeared encouraged by the rise in both nominal and real market interest rates since the previous FOMC meeting, arguing that in the absence of forward guidance, financial markets are responding directly to incoming economic data. He also suggested that these market moves provide valuable information for policymakers. Notably, when asked whether tighter financial conditions should prompt the Fed to raise policy rates, he implied that the increase in market rates was itself doing much of the required work. In effect, the Fed appears increasingly comfortable allowing markets to deliver the tightening that might otherwise have come through policy action.
- The broader question for investors is whether the Fed is prepared to act if inflation pressures re-emerge, or whether it is relying on tighter market-driven financial conditions to achieve the same outcome. If investors conclude that the latter is true, the credibility of the Fed’s inflation-fighting commitment could come under increasing scrutiny. Arguably, it already is.
Policy outlook
Our base case remains that the Fed stays on hold through the remainder of 2026. Recent inflation data point to moderating underlying price pressures, while inflation expectations remain broadly contained. This provides policymakers with scope to wait for greater clarity before adjusting policy.
That said, our conviction is low. The longer energy flows remain disrupted, the greater the risk that inflation expectations become unanchored, ultimately requiring a firmer policy response.
Furthermore, the sharp sell-off in long-dated Treasurys following Chair Warsh’s press conference may be interpreted as a signal that investors increasingly question the Fed’s commitment to returning inflation to target. If that perception persists, policymakers may ultimately need to reinforce their credibility through further tightening. Alternatively, a little less ambiguity from the Fed Chair at the next FOMC meeting may suffice.
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