On July 29th, The Federal Reserve announced for the 7th consecutive month that it would maintain the benchmark interest rate at a range of 3.5% to 3.75%. This decision led to a rapid increase in long-term US government bond yields, reaching the highest level in 19 years.
Sensitive to inflation, the 30-year US bond yield reached 5.19% on July 31st. The previous day, on July 30th, it had climbed to a 19-year high of 5.24%. The 10-year US bond yield, which moves inversely with bond prices, also rose again and approached 4.7%.
Goldman Sachs’ report suggested that to some extent, the bond market is pricing in expectations for higher yields due to interest rate policy. Historically, if the 10-year US bond yield reaches 5%, it could create systemic pressure on the stock market. Though the bond market is experiencing increased volatility and continuous reassessment of interest rate paths, Goldman Sachs believes that US stocks have not yet entered a phase of substantial risk dominated by interest rates.
On July 29th local time, the Federal Reserve’s Federal Open Market Committee (FOMC) announced the decision from its July meeting. The decision to keep the benchmark interest rate unchanged at 3.50% to 3.75% was in line with economists’ expectations. The decision was made with a 9:3 vote, with three members supporting an immediate 25 basis point rate hike.
Meanwhile, Federal Reserve Chair Kevin Warsh admitted during a press conference that there were intense discussions among committee members during the decision-making process, but described it as a “benign household-style discussion,” and did not show a clear hawkish or dovish bias himself.
The dissenting records of the Federal Reserve Bank of St. Louis’s Open Market Committee showed that over the past six weeks, various events had occurred, including a surge in oil prices following escalating tensions with Iran. The policy statement after the July meeting was nearly identical to that of June, only changing “reiterate the committee’s policy of maintaining ample reserves in the banking system” to “continue.”
An article by Nick Timiraos from The Wall Street Journal on July 30th, recognized for accurately forecasting Federal Reserve policy trends, suggested that investors sensed from Chair Warsh’s remarks a lack of clear willingness to take the necessary rate hike measures to combat inflation, sparking market concerns.
Economists pointed out that Warsh’s statements left investors uneasy. When asked about which inflation indicators he relied on, Warsh affirmed the Fed’s official indicator – the Personal Consumption Expenditure Price Index. However, he also left room for considering other indicators, stating that his perspective was broader. He further mentioned that the Fed’s strategic statement could undergo changes, which outlines how the Fed sets inflation goals and is typically reissued each January.
Reportedly, Krishna Guha from Evercore ISI stated that his base prediction remains that Warsh will narrowly avoid a rate hike in September, describing it as a precarious decision. He said that if the Iran conflict and energy prices lead to sustained inflation throughout the summer, Warsh will potentially face up to six opposing votes and pressure from the bond market, compelling him to take action to maintain credibility.
Loretta Mester, a former Federal Reserve voting member, mentioned that asset prices such as US bonds reflect expectations on two fronts: what investors believe the data mean for the economy and what actions they expect policymakers to take.