US Federal Reserve (Fed) left its policy interest rate unchanged at its first meeting under new Chair Kevin Warsh. The Federal Open Market Committee (FOMC) unanimously voted to keep the benchmark interest rate range at 3.50–3.75 percent. Thus, the Fed has left interest rates unchanged for the fourth consecutive meeting.
However, more striking than the decision statement were the latest economic projections released by Fed officials. The new projections signaled a marked shift toward a more hawkish stance by the central bank. While in March no official expected a rate hike by year-end, in the latest projections, nine out of 19 officials forecast at least one rate hike before the end of the year. Conversely, while 12 officials had expected a rate cut in March, the number of officials expressing this view dropped to just one in the latest projections.
This table showed that the view within the Fed that “the next step may be a rate hike, not a rate cut” has gained strength. In recent weeks, markets had been pricing in the expectation that “rates will remain high for a longer period.” However, the new projections were interpreted as a hawkish signal that went beyond expectations. There were comments suggesting that Fed officials had gradually shifted from a “wait-and-see” approach to a phase of “preparedness to raise rates if necessary.”
Recent shocks in energy prices were not the only factor influencing the Fed’s decision to send this signal. A series of developments in recent years—including the COVID-19 pandemic, the Russia-Ukraine war, the tariff policies implemented last year, and the ongoing conflict in the Middle East—have eroded confidence that inflation will return to the 2 percent target. Some Fed officials are concerned that if inflation remains above target for an extended period, the public’s long-term inflation expectations could be undermined.
As inflation rises, real interest rates fall
There is another risk emerging on the real interest rate front. As inflation rises, the Fed’s decision to keep interest rates steady causes real interest rates to fall automatically. According to some economists, this situation amounts to a passive easing of monetary policy in an economy that no longer needs additional stimulus.
William English, a former senior advisor to the Fed and a professor at the Yale School of Management, said that keeping rates steady for a while longer is the most likely scenario in the current environment. English noted that uncertainty is quite high but that the view that the next step could be a rate hike is “entirely reasonable.”
Alongside short-term shocks, a more persistent factor affecting the economy is the AI boom. Data center investments, rising electricity demand, and AI-related capital expenditures are feeding into the economy through a strong demand channel. Additionally, the wealth effect created by the stock market rally is supporting spending among high-income groups.
Markets had previously expected artificial intelligence to drive down prices in the long term. However, in recent times, an increasing number of economists believe that artificial intelligence could become a new source of inflation, at least in the short term.
James Egelhof, Chief U.S. Economist at BNP Paribas, stated that while artificial intelligence could reduce costs in the long term, monetary policymakers must focus on current conditions rather than the 2030s. Egelhof predicted that the Fed could begin raising interest rates in December.
Meanwhile, Jeffrey Cleveland, Chief Economist at Payden & Rygel, holds a different view. According to Cleveland, the Fed’s next move will still be a rate cut, but this should not be expected in the short term. While Cleveland considers maintaining the current interest rate level reasonable, he acknowledged that inflation is more stubborn than expected and the labor market is stronger than anticipated. However, he argued that there is no compelling reason for a rate hike.
Cleveland stated that a new rate hike would require either a resurgence in wage growth or a significant rise in long-term inflation expectations. In his view, neither of these conditions has been met yet.
What made the process even more noteworthy was that this shift in Fed policy coincided with Kevin Warsh’s first meeting as chair. Warsh had been nominated by President Donald Trump. Trump had previously stated that he would appoint individuals who support low interest rates. However, Warsh’s first meeting revealed a FOMC landscape that was moving away from rate cuts and bringing the possibility of a rate hike back onto the agenda.
Furthermore, only 18 officials’ projections were included in the latest dot plot. Warsh stated that he did not submit his own interest rate projection. Additionally, the Fed’s policy statement at his first meeting as chair was kept much shorter and simpler compared to previous periods. The statement did not provide clear guidance on the next step; it merely emphasized that the Committee would ensure price stability.
