Kevin Warsh gave markets little indication of where US rates are heading next in his Jackson Hole speech. That was intentional.
Rather than guiding markets towards the Fed’s next move, Warsh made the case for stepping back from forward guidance and letting the data do more of the talking. And looking at that data today, there appears to be little urgency for the Fed to ease.
Less Guidance from the Fed
One of the more interesting parts of Warsh’s speech was his view on how the Fed communicates with markets.
He argued that forward guidance made sense during periods of crisis but is less useful in normal conditions. His concern is that the Fed and markets can end up taking their cues from each other rather than from what is happening in the economy.
That doesn’t mean moving towards a fixed policy rule. Warsh also acknowledged the limitations of relying too heavily on economic models. Instead, his preference appears to be simple: less signalling about what comes next and more focus on the data as it arrives.
That could make the path for rates a little harder for markets to anticipate.
The economy isn’t calling for lower rates yet
Business investment is up around 9% year-on-year, with AI-related spending accounting for more than half of that growth. S&P 500 profits are growing at more than 20% year-on-year, credit spreads remain tight and lending conditions have been easing.
The labour market also remains stable, with unemployment at 4.1% and initial claims close to multi-decade lows.
Taken together, there isn’t much in those numbers to suggest that current interest rates are putting the economy under significant pressure.
Inflation is the bigger issue
Inflation was where Warsh was noticeably more cautious. Personal Consumption Expenditures (PCE) inflation is running at 3.7% year-on-year and 4.1% on a six-month annualized basis. He also pushed back on the idea that some encouraging inflation news over the summer is enough to show that the underlying trend has changed.
There is still quite a lot of inflation beneath the headline number too. Around 54% of PCE components are rising by more than 3% year-on-year, compared with a pre-pandemic norm of roughly 32%. For Warsh, that leaves prices as the Fed’s main concern.
Where does that leave rates?
There was no direct signal on the next rate decision, but the overall picture leans towards patience.
Growth is holding up. The labour market remains stable. Financial conditions are not particularly restrictive, but inflation is still above where the Fed wants it to be.
None of that rules out cuts further down the line. But it does make the case for easing quickly less convincing.
And if Warsh follows through on his preference for less forward guidance, markets may have to get more comfortable with more uncertainty around the Fed’s next move.
