30.07.202609:25 Forex Analysis & Reviews: Details of Yesterday's Fed Meeting: Warsh Holds the Line but Doesn't Close the Door to a Rate Hike

The Federal Reserve left its interest rate unchanged, but the decision proved quite controversial. The vote was 9 to 3 in favor of a pause, while three regional Fed presidents—Hammack, Kashkari, and Logan—called for an immediate hike of 25 basis points. This represents the most significant division within the Fed since Kevin Warsh took the chairmanship and is a clear indication of how thin the line was between holding rates and tightening them at this meeting.

The statement following the meeting presented a mixed but generally stable picture of the economy. Economic activity continues to grow at a steady pace despite heightened uncertainty, partially linked to the Middle Eastern conflict. Productivity growth and capital investments remain strong; job growth is in line with the increase in the workforce; and unemployment has hardly changed. However, inflation remains above the 2 percent target, partly due to supply shocks and rising prices in certain sectors such as energy, while the Fed confirms its intention to ensure price stability.

The balance sheet management policy remained unchanged: the central bank will continue to buy Treasury bills and other government securities with maturities of up to three years as needed to maintain sufficient reserve levels; maturing Treasury bonds will be fully reinvested; and payments on agency securities will be directed toward Treasury bills.

During the press conference, Warsh made it clear that the decision to pause should not be interpreted as a sign of long-term inaction. "If today's decision is called a pause, the financial market will disagree. Today's decision by the Fed is just the beginning, not the end of the story," he said. Furthermore, he left the door open for future tightening. "If inflation remains high, raising rates could be part of our solution," he added, pointing out that the Fed has developed a false impression that it is willing to tolerate inflation slightly above the target level. He emphasized that the inflation target is not a flexible benchmark, and five years of high inflation have created a sustainable yet misleading impression that the Fed's actual target was above 2 percent. "The Fed will not deviate from its course. You cannot defeat inflation in nine weeks," he stressed.

Warsh elaborated on the internal discussion that led to the current voting split. "Regarding disagreements on the rate within the Fed: I wanted a good family discussion, and I got it. The majority agreed that we have all the necessary tools to ensure price stability. The discussion was active and substantive," he stated, noting that the discussions showed a high level of agreement within the Fed on complex issues, despite the divided votes. He also mentioned that he would allow dissenting chairs to speak for themselves and refrained from commenting on the positions of Hammack, Kashkari, and Logan on their behalf.

A significant portion of his speech was devoted to the new Fed's philosophy regarding market signals. Warsh noted that some spikes in yields between Fed meetings have been among the most significant in decades, partly linked to the central bank's reduced forecasting, which he called a positive change. "The market now reacts much more directly to events, and we try not to interfere and get the cleanest signal possible from it. We are observing rising yields and trying not to interfere with this process," he said, adding that interpreting market signals is far from an accurate science. However, according to the bond market, the economy remains strong and stable. "Even if we have done almost nothing, the market has already done significant work," he noted, indicating that market prices are just one of many channels through which monetary policy influences the economy.

Warsh also commented on the role of artificial intelligence in the current economic landscape, reiterating a theme that he and other Fed representatives have raised repeatedly in recent months. The surge in capital investment in high technology has been impressive, and investments in AI are laying the groundwork for future growth while simultaneously increasing the cost of the technology's infrastructure. He emphasized that he does not view the two goals of the Fed—full employment and price stability—as contradictory, noting that the country's employment situation is quite good, whereas price stability is significantly worse.

Regarding the methodology of decision-making, Warsh expressed a cautious stance regarding excessive reliance on individual reports. "There are two problems with the macro data-dependent approach: the data themselves and the excessive reliance on them. The overall trend is what matters," he said, noting that June's core inflation data had little impact on today's decision, even though the Fed received several encouraging signals regarding inflation. He stressed that he does not want to give the impression that the regulator is under pressure from every new economic indicator, adding that the committee will discuss the situation with the inflation working group in a couple of weeks. Warsh also announced that he is preparing for his first traditional speech in Jackson Hole, stating that discussions about the speech's content have not yet begun, but he would like to highlight key issues there.