Fed rate hike expectations for October cool! Officials hint no rush to act, AI investment boom may become the main inflation risk next year.

Title context: Fed rate hike expectations for October cool! Officials hint no rush to act, AI investment boom may become the main inflation risk next year. Text: Several senior Federal Reserve officials signaled this week that while U.S. inflation remains elevated and further rate hikes may be needed in the future, the Fed is in no rush to act in October. New York Fed President Williams and Fed Vice Chair Jefferson both emphasized that more economic data should be awaited before deciding the next policy path, pushing market expectations for the next rate hike from October to December. Meanwhile, Fed Governor Cook warned that artificial intelligence (AI) infrastructure buildout could bring sustained inflationary pressure, becoming one of the main risks facing monetary policy in 2027. Minneapolis Fed President Kashkari said he still expects the Fed to raise rates once each this year and next, but is open on the specific timing of the next move. He also noted that the U.S. economy is performing more strongly than previously expected, and current monetary policy may not be significantly restraining the economy. Williams and Jefferson Speak in Succession; Market Pushes Rate Hike Expectations to December The Fed raised its benchmark rate by 25 basis points to 3.75%-4.00% in September by a unanimous vote, and policymakers' rate projections at the time also showed a possible additional hike before the end of the year. As U.S. inflation continues to run above target, financial markets had previously expected the Fed to hike again at its October 27-28 meeting, and even bet that future tightening could exceed officials' forecasts. However, speeches by two senior Fed officials this week changed that expectation. Williams, an important figure in the Fed's monetary policy decision-making framework who also serves as vice chair of the Federal Open Market Committee (FOMC), said on Tuesday that after already taking a rate hike in September, there is no need to rush into adjusting rates again. He believes the Fed can use the time ahead to observe economic data and more clearly judge changes in the economy and inflation before deciding the next policy move. Williams still expects that if the economy evolves broadly in line with his forecast, another rate hike later this year may be appropriate, but did not suggest it must happen immediately in October. Fed Vice Chair Jefferson further reinforced that signal on Thursday. In remarks prepared for an event at the University of Virginia's Darden School of Business, Jefferson said any future monetary policy adjustment should be based on a careful assessment of economic data trends, changes in the outlook, and the balance of risks. He noted that as bond yields rise, financial markets are reassessing the interest rate outlook, but Fed officials still need to form their own judgment, and that process may take more time. Jefferson said that with more data, economic trends and the appropriate monetary policy stance may become clearer. Influenced by those remarks, the market sharply reduced bets on an October hike. Investors now broadly expect the Fed to keep rates unchanged at the October meeting and raise rates by another 25 basis points at its final meeting of the year on December 8-9. Several global brokerages have also shifted their expected timing for the next hike to December. Analysts: Two Senior Officials Send Clear Signal That the Fed Wants to Slow the Pace of Hikes Evercore ISI analysts believe Jefferson's remarks effectively confirmed the message previously sent by Williams, namely that the Fed does not expect to hike for a second consecutive time in October and instead wants more time to assess the economic situation. The firm noted that with Fed Chair Warsh rarely providing clear guidance on the future rate path, the joint remarks by Williams and Jefferson carry strong policy signal value. Tim Duy, chief U.S. economist at SGH Macro, argued that the reason Williams needed to express his position so clearly is that market bets on rate hikes had already run noticeably ahead of the Fed's own policy expectations. He noted that this partly reflects the impact of the Fed's current lack of clear forward guidance. Although the market has readjusted its expectations for the timing of a hike, that does not mean the Fed has changed its overall direction of further monetary tightening. Officials are currently emphasizing more that the timing of action should be determined by future data, rather than following the pace of consecutive hikes previously expected by the market. Kashkari: Maybe One Hike Each This Year and Next; Current Policy Not Restrictive Enough Minneapolis Fed President Kashkari said in an interview on Thursday that he does not have a particularly strong preference on whether the Fed's next rate hike should come in October or December. He said that in the projections he submitted at the September policy meeting, he expected another 25 basis point hike in 2026 and a further 25 basis point hike in 2027. However, Kashkari also noted that economic data released since the September meeting show the U.S. economy performing even more strongly than he had previously expected, while inflation remains too high. He warned that if the U.S. economy continues to show greater-than-expected resilience and inflation proves more stubborn than currently judged, the Fed may ultimately need to raise rates above his current forecast. Kashkari believes that, judging by the labor market and overall economic output, current monetary policy may not be restraining the economy particularly noticeably. He said the U.S. labor market remains quite healthy and economic activity remains strong, signs that the current rate level may have relatively limited dampening effect on demand. At the same time, Kashkari believes the recent marked rise in long-term borrowing costs partly reflects the market's reassessment of U.S. economic fundamentals and also shows investors believe the Fed under Warsh will seriously address inflation. Regarding recent sharp volatility in the bond market, he said he currently sees no signs of systemic financial risk, and the U.S. Treasury market is still able to function normally and absorb price adjustments. However, he stressed that given the rapid change in borrowing costs over a short period, the Fed still needs to closely monitor conditions in the banking sector. Cook: AI Investment Boom Could Become the Main Inflation Risk in 2027 While the market focuses on the timing of the next rate hike, Fed Governor Cook has set her sights on the inflation outlook for 2027. Speaking on Thursday at an event hosted by the New York Fed, Cook said AI infrastructure buildout is creating new inflationary pressures, and those pressures may not fade quickly. She noted that the inflationary impact of AI investment is one of the economic risks for 2027 that worries her most. Like several other Fed officials, Cook believes AI technology can raise productivity over the long run and help the economy grow faster. But she worries that there is still great uncertainty over when the productivity gains from AI investment will actually materialize and which areas may see new supply bottlenecks in the future. That means that before AI technology drives productivity gains and thereby eases inflation, large-scale data center construction and related infrastructure investment may first push up demand for certain goods, equipment, and resources, adding to price pressures. Cook also specifically mentioned that in recent years supply shocks have occurred more frequently, and their effects have lasted longer than previously thought, which is changing how the Fed assesses monetary policy. She said the traditional view generally holds that central banks can temporarily ignore supply shocks because raising rates cannot directly lower oil prices or end wars, and may instead dampen employment and economic output. However, as supply shocks become more frequent and persistent, the Fed may need to reconsider the most appropriate policy response, depending on which industries are hit and how the effects transmit through the broader economy. Geopolitical risks and supply chain disruptions from Middle East conflicts further complicate the issue. Inflation Risks Still Tilted to the Upside; September Jobs Report Becomes the Next Focus Although several officials support delaying the next rate hike, concerns within the Fed about the inflation outlook have not eased noticeably. Data show that the inflation gauge the Fed focuses on rose 3.4% year over year in August, not only above the 2% policy target, but also marking more than five and a half consecutive years in which U.S. inflation has remained above that target. Jefferson expects U.S. inflation to remain elevated for some time, then gradually return toward the 2% target as the effects of energy and other price shocks fade. However, he also noted that recent geopolitical developments and stronger-than-expected aggregate demand mean risks to his inflation forecast are tilted to the upside. Kashkari likewise said he remains somewhat confident that inflation will gradually return to the 2% target in coming years, but successive economic shocks keep introducing new uncertainty. Next, Fed officials will focus on the U.S. September nonfarm payrolls report due on Friday. With recent hiring data generally stable, several officials believe the Fed currently has some policy room to focus more attention on controlling inflation. Therefore, unless the jobs data deliver a clear surprise, a single employment report may not be enough to again change the market's overall judgment on the rate path.