Fed raises rates for the first time in three years! Warsh signals hawkish stance, possibly another 25 basis points this year.

The Federal Reserve raised its benchmark interest rate by 25 basis points to a range of 3.75%-4.00% on Wednesday, the first rate hike since July 2023. New Fed Chair Warsh emphasized after the meeting that recent inflation data has not shown substantial improvement in underlying price pressures. The latest "dot plot" also shifted markedly in a hawkish direction, with most officials expecting at least one more rate hike this year. The rate increase was unanimously approved by the Federal Open Market Committee (FOMC). In its policy statement, the Fed said U.S. economic activity continues to expand at a solid pace, with household spending remaining resilient, productivity growth strong, capital investment robust, employment growth roughly in line with labor force growth, and the unemployment rate little changed; meanwhile, inflation remains elevated, and this policy action will help bring inflation back to the 2% target in a more timely manner. Warsh said at the press conference that the Fed "withdrew some of its easing" this time, aiming to bring financial and credit conditions more in line with achieving its ultimate policy goals. He particularly emphasized that there are still too many categories of goods and services with prices rising at an annualized rate above 3%, and said the summer's inflation data did not convince him that underlying inflation trends had shown meaningful improvement. A series of recent inflation readings reinforced the case for the Fed to tighten policy again. August core inflation rose more than expected, fueling market concerns that price pressures may be spreading from factors such as tariffs and energy price shocks to broader areas. The Fed's latest projections show a median PCE inflation rate of 3.7% for 2026 and a core PCE inflation rate of 3.4%; more notably, officials now expect headline PCE inflation to return to 2% only by 2029, a further delay from previous expectations. **Dot Plot Turns Hawkish, Another 25 Basis Point Hike Possible This Year** Compared with the rate hike itself, markets paid more attention to the forward policy signals from the Fed. The latest economic projections show that officials' median forecast for the federal funds rate at the end of 2026 was raised to 4.1% from 3.8% in June. According to the dot plot, of the 18 officials who submitted rate projections, 16 expect the rate at year-end to be higher than the post-hike level, with 12 projecting a year-end median rate of 4.125%, corresponding to a target range of 4.00%-4.25%; another 4 expect rates to rise even higher. This means that after this week's 25 basis point hike, support within the Fed for at least one more rate increase this year has clearly strengthened. By comparison, in June only 6 officials expected at least two rate hikes for all of 2026. Warsh, as in June, did not submit his own rate projection this time. For 2027, the median rate projection is 4.1%, implying that from a median perspective, the Fed may hold rates steady next year. However, there remains considerable divergence among officials, with some policymakers believing further tightening may still be necessary. Noah Buffam, a strategist at CIBC Capital Markets, said the latest dot plot is clearly hawkish, with Fed officials expecting rates to return to neutral more slowly than the market had previously anticipated, which is also an important reason for the dollar's support. **Dollar, Treasury Yields Rise; Risk Assets Under Pressure** The hawkish policy signals quickly transmitted to financial markets. After the Fed announced its decision, the two-year Treasury yield, which is most sensitive to monetary policy, rose rapidly, briefly reaching 4.71%, up more than 10 basis points from before the decision; the 10-year Treasury yield hovered around 5%. The dollar strengthened in tandem, with the Bloomberg Dollar Spot Index rising as much as 0.5%, touching its highest level since August 14. The foreign exchange market also reacted notably. Sterling fell as much as 0.7% against the dollar, making it one of the weaker G10 currencies; the yen fell as much as 0.5% against the dollar to 155.94. Valentin Marinov, head of G10 FX research and strategy at Credit Agricole, said Warsh's remarks were also hawkish, further boosting the dollar. U.S. stocks extended their losses during Warsh's press conference. Data showed the Dow Jones Industrial Average closed down about 1.2% on Wednesday, the S&P 500 fell about 0.45%, and the Nasdaq erased its losses to close nearly flat; the two-year Treasury yield ultimately rose to around 4.73%, while the 10-year yield touched around 5%. The market had in fact already highly anticipated this rate hike. Before the decision, as August inflation data failed to show a clear cooling of price pressures, traders had priced in a more than 90% probability of a 25 basis point hike. But as the dot plot showed further rate increases may still be possible this year, investors began reassessing the risk that U.S. rates could remain elevated for longer. **"Bond King" Gundlach: The Fed Should Have Hiked 50 Basis Points at Once** It is worth noting that a well-known Wall Street investor believes the Fed's 25 basis point hike was not even enough. Jeffrey Gundlach, founder of DoubleLine and known as the "new bond king," said the Fed should actually have raised rates by 50 basis points at once on Wednesday and then decided its next move based on subsequent economic data. He believes a larger hike would allow the federal funds rate to converge more quickly with the rate level reflected in the bond market. Gundlach pointed out that the two-year Treasury yield had previously been more than 100 basis points above the federal funds rate. Since the two-year Treasury yield typically reflects market expectations for short-term policy rates, he believes the bond market had in fact already sent the Fed an early signal that further tightening was needed. Gundlach also said he worries that markets and policymakers may still not be paying sufficient attention to the inflation problem facing the United States. He was not surprised that U.S. stocks extended their losses during Warsh's press conference. **Inflation Remains at the Core of Policy; Fed's Tightening Cycle May Not Be Over** This decision also marks Warsh's first major policy shift since taking over as Fed Chair at the end of May. Although U.S. President Trump had previously continued to call for lower interest rates and publicly said U.S. borrowing costs should be among the lowest in the world, the Fed still unanimously decided to raise rates. When asked by reporters what message he wanted to convey to Trump, Warsh did not comment further on discussions between the two. Judging from the signals the Fed itself has released, the current policy focus remains clearly centered on controlling inflation. The official statement emphasized that inflation remains elevated, while economic activity remains solid, capital investment is strong, and the job market has not shown obvious deterioration, meaning the Fed still has room to suppress price pressures through higher interest rates. More importantly, unlike earlier market hopes that Warsh would push for rate cuts after taking office, the latest dot plot shows the Fed's policy path is adjusting in a "higher for longer" direction: the median federal funds rate forecast for the end of 2026 rose to 4.1%, and most officials support at least one more rate hike this year; at the same time, the timeline for inflation returning to the 2% target has been pushed back to 2029. This means this week's 25 basis point hike may not be an isolated policy adjustment. Upcoming inflation, employment, and energy price data will become key factors in determining whether the Fed continues to tighten policy later this year.