Expectations that the Federal Reserve could raise interest rates at its September meeting have increased sharply after cautious comments on inflation from Fed Chairman Kevin Warsh. The probability of a rate hike in forecasting markets has reached one of its highest levels in recent months, while U.S. Treasury yields have also risen significantly.
Rate hike expectations shift ahead of September Fed meeting
Market expectations are changing rapidly ahead of the Federal Reserve’s monetary policy meeting on September 16. Data from forecasting markets indicate that the probability of the Fed keeping interest rates unchanged is about 55%, while a 25-basis-point rate hike is priced at approximately 46%. The probability of a larger increase is estimated at only about 1%.
CME Group’s FedWatch tool shows that investors have raised the probability of a rate hike at the September meeting to 55.7%, an increase of approximately 20 basis points in a single day.
Warsh says inflation trend has not improved significantly
Speaking at the Jackson Hole symposium in Wyoming, Federal Reserve Chairman Kevin Warsh said inflation remains elevated.
Warsh acknowledged that inflation data released during the summer was more positive than expected but said it did not demonstrate a lasting improvement in underlying inflation trends.
Warsh stated, “While inflation data released this summer was better than expected, it doesn’t indicate a significant improvement in underlying trends.”
The Fed chairman added that policymakers must ensure inflation is moving clearly and quickly enough toward the level targeted by the central bank.
Warsh indicated that the Fed could otherwise need to tighten monetary policy further, saying, “Otherwise, we have more work to do. This is our duty, our authority, and our responsibility.”
However, Warsh did not provide direct guidance on how the Fed will act at upcoming meetings or offer a definitive framework for the economic data that will determine future interest rate decisions.
U.S. Treasury yields rise after Warsh’s remarks
Following Warsh’s speech, U.S. stock indexes rose, while selling pressure emerged in the bond market.
The yield on the 2-year U.S. Treasury note, which is highly sensitive to expectations for Federal Reserve interest rate policy, climbed approximately 8 basis points to 4.31%. That was the highest level for the 2-year yield since the end of July.
The increase in short-term Treasury yields suggests that investors increasingly expect the Fed to pursue tighter monetary policy in the coming period.
With approximately two and a half weeks remaining before the September meeting, upcoming inflation and employment data are expected to be critical in determining the direction of interest rate expectations. If inflation remains stronger than expected, the likelihood of a rate hike will increase. A significant slowdown in price pressures, however, could reinforce expectations that the Fed will leave interest rates unchanged.
This is not investment advice.
