Financial markets anticipate a high probability of a further interest rate hike by the Federal Reserve in September. However, investor expectations are subject to ongoing volatility, influenced by changing economic data and macroeconomic developments. An internal assessment of the situation indicates an approximate 60 per cent probability of such an interest rate increase, signalling less certainty than current market pricing implies. Despite recent data generally supporting a tightening of financial conditions, the possibility of a contrary development persists.
The Federal Reserve's communication has recently shifted more towards a restrictive stance. The current inflationary environment also underpins the expectation of an interest rate hike. The Consumer Price Index (CPI) recorded a monthly increase of 0.29 per cent in August, exceeding consensus forecasts of 0.2 per cent. This resulted in an overall inflation rate of 3.35 per cent and a core inflation rate of 2.5 per cent. Although this release offered only limited direct conclusions regarding the Fed's preferred core PCE, the positive surprise reinforces the view that maintaining the current monetary policy course until the end of the year is becoming increasingly difficult.
Persistence of Inflation and Growth Outlook
The focus of the analysis is not exclusively on the inflation level, but also on its breadth and persistence. Indicators of inflation breadth remain at an elevated level. More than half of the PCE components now exceed an annualised rate of 3 per cent – a metric whose importance former Fed Chairman Warsh recently emphasised. Parallel to inflation developments, growth and labour market data have also proven resilient, with the committee acknowledging the continuous improvement in employment conditions.
Financial markets have experienced a significant revaluation in recent months. Higher commodity prices and rising yields contributed to a tightening of financial conditions. Yield movements across the entire curve of US Treasury bonds were notably one-sided, reflecting growing confidence in the assumption that interest rates may need to remain at an elevated level for an extended period. This makes the political environment for the Federal Reserve increasingly complex.
Challenges from Fiscal Policy and Market Reactions
A robust growth and inflation environment is accompanied by increased uncertainty regarding fiscal policy and questions of budgetary discipline. This suggests that monetary policy could face greater restrictions than in previous cycles. Without considering fiscal concerns, yields in the middle segment of the US Treasury curve appear increasingly close to fair value given the expected growth environment. This limits the scope for a significant revaluation unless macroeconomic prospects fundamentally change.
- —Forecast probability for interest rate hike: 60 %
- —August CPI increase: 0.29 % monthly
- —Overall inflation: 3.35 %
- —Core inflation: 2.5 %
