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Expectations that the Fed may raise interest rates at its September meeting have risen significantly following cautious remarks on inflation by Fed Chairman Kevin Warsh. The probability of a rate hike in forecasting markets has approached its highest levels in recent times, while bond yields have also seen a sharp increase.
Market expectations are rapidly changing ahead of the Fed’s monetary policy meeting on September 16th. According to data from the forecasting markets, the probability of the Fed maintaining current interest rates is around 55%, while a 25 basis point rate hike is priced at around 46%. A larger rate hike is seen as having only about a 1% probability.
CME Group’s FedWatch tool shows that investors have increased the probability of a rate hike at the September meeting to 55.7%. This represents an increase of approximately 20 basis points in just one day.
Warsh: No Significant Improvement in Inflation Trend
Federal Reserve Chairman Kevin Warsh, in a speech at the Jackson Hole symposium in Wyoming, noted that inflation remains high.
Warsh acknowledged that the inflation data released during the summer was more positive than expected, but said that it did not indicate 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 also added that it is necessary to ensure that inflation is moving clearly and quickly enough toward the level targeted by the central bank.
Warsh signaled that otherwise the Fed might 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 offer any direct guidance on how the Fed will act in upcoming meetings, nor did he provide a definitive framework for what economic data interest rate decisions will depend on.
US Treasury Yields Rise Sharply
Following Warsh’s speech, US stock indices rose while selling pressure was observed in the bond market.
The yield on the 2-year US Treasury bond, which is highly sensitive to expectations regarding the Fed’s interest rate policy, rose by approximately 8 basis points to 4.31 percent. This marks the highest level for the 2-year bond yield since the end of July.
The rise in short-term bond yields indicates that investors’ expectations are strengthening that the Fed may implement a tighter monetary policy in the coming period.
With approximately two and a half weeks to go until the September meeting, the new inflation and employment data to be released are expected to be critical in determining the direction of interest rate expectations. If inflation remains stronger than expected, the likelihood of an interest rate hike will increase, while a significant slowdown in price pressures could reinforce expectations that the Fed will keep interest rates unchanged.
*This is not investment advice.