What policymakers are predicting for the economy, an update on bond yields and developments in the AI regulatory debate.
One of my high school teachers was a veteran and graduate of the U.S. Military Academy at West Point. I remember he had a framed poster hanging above the chalkboard (dating myself—now they are all “smartboards”). It quoted a section of West Point’s Cadet Prayer that goes: “Choose the harder right instead of the easier wrong.”
This week, newly minted Federal Reserve President Kevin Warsh and the Federal Open Market Committee (FOMC) chose the harder right. Facing months of data showing the pervasive and insidious hold inflation has over the economy, the FOMC opted to raise interest rates rather than hold or reduce them. Their 25-basis-point bump marks the first rate increase since 2023. At a range of 3.75% to 4.00%, the federal funds rate is still low to average in a historical context.
In their official statement, the Fed’s relatively impressive assessment of the economy was virtually unchanged, with the FOMC continuing to characterize growth as “solid” and jobs gains as keeping “pace with the workforce.”
At the same time, policymakers acknowledged the still “elevated” level of inflation. In fact, assigning new language, the statement goes on to say that September’s hike will “support a timelier return to the Committee’s 2 percent goal.”
In the FOMC’s updated Summary of Economic Projections, U.S. GDP growth was revised slightly higher to 2.3% this year, to 2.4% in 2027 and the 2028 forecast was unchanged at 2.2%. The Committee revised its unemployment-rate forecast down to 4.1% for this year and next year and expects it to remain at that level through 2029.
The inflation forecast, meanwhile, was revised higher, with the headline personal consumption expenditures (PCE) index anticipated to rise 3.7% this year and then drop to 2.3% next year. Excluding the impact of increases in the prices of food and energy, the core PCE inflation barometer is expected to rise 3.4% this year and 2.5% in 2027, with members not expecting to reach the 2.0% target until 2029, now a full year later than previously forecast.
In the Fed’s official “dot plot,” which shows the path of future interest rate policy, 16 of the 18 officials that submitted a forecast now see at least one more rate hike in the remaining months of the year (with four of the 16 anticipating two hikes). The market also believes the Fed will now raise rates at least another two times according to the current arc of fed funds futures.
While it’s not easy to defy a president and throw sand in the gears of growth, the new Warsh Fed appears sincere in its commitment to restore price stability. That said, with double-digit price gains across nearly every key category of expenditure over the past five years, coupled with the latest energy price spike, it will take solid conviction and probably more than two rate hikes to ensure a return to the longstanding 2% target.
In fact, despite the statement’s claim that yesterday’s increase will return the market to a more palatable level of inflation in a timely manner, it’s at odds with what’s in the Fed’s own projections. As noted, the Committee’s forecast for reaching its 2% target has been pushed out by a year. The contrast belies the Fed’s reassurances that policymakers will do “whatever it takes,” especially when it would seem the Committee failed to raise rates to a sufficiently restrictive level in 2023 to avoid this circumstance.
Stock markets are ending the week off, but not materially; in fact, the S&P 500 Index is down less than 1% this week and so far in September. The tech-heavy Nasdaq Index is actually positive by about 1% this week and month to date. While bond yields are higher, and the 10-year U.S. Treasury note has tipped over to trading above 5%, they are not running away. Some investors are using the bump in yields across the short and intermediate part of the yield curve to increase their exposure to bonds, seeing yields around these levels as a relatively good buy for safety while the stock market continues to hold strong at record-high levels and valuations.
The other catalyst for interest in bonds and the safety of reset yields was the disquieting weekend essay from Dario Amodei, the CEO of Anthropic, who argued that we must pace the new frontier of AI or risk our safety. Notably, he was joined in his sentiments by OpenAI CEO Sam Altman and Elon Musk of xAI. While Amodei outlined a plan of action and regulatory frameworks, the notion of slowing down was shut down by President Donald Trump, who was quoted as saying, “If we don’t win AI, we’re going to be put in a very bad position.”
Both things are true, of course. But as the Cadet Prayer also extols, may we choose “never to be content with a half-truth when the whole can be won.”
Written by a human.