The Fed is ruling nothing out

At its July meeting, the Federal Open Market Committee (FOMC) decided to keep its benchmark policy rate unchanged at 4.25%-4.50% as expected. However, this was not a unanimous decision. For the first time since 1993, there were two dissents, with Fed Governors Christopher Waller and Michelle Bowman voting to cut policy rates by 25 basis points.

Even so, the press conference provided no clear policy direction. Chair Powell did not offer any clues or guidance around the September FOMC meeting, although his broader comments leaned marginally more hawkish than the market had anticipated. With two employment reports and two inflation prints to be released ahead of the next meeting, the outlook for Fed cuts remains wide open.

Current policy backdrop

As well as contending with White House criticism of Chair Powell and the decision to keep policy rates on hold over recent months, the Fed has also had to confront an uncertain trade policy backdrop and conflicting economic signals.

Survey data continue to suggest consumer weakness, while economic activity data remained broadly robust. In the labour market, hirings are low but so too are firings, while declining labour supply because of tighter immigration policy is likely to make employment data increasingly difficult to decipher in the coming months. Inflation has been trending lower, but is beginning to show signs of tariff pass-through to core goods prices. Against this backdrop, policy decisions are even less straightforward than usual, and so it is unsurprising that there are conflicting views within the committee.

Press conference—key observations

Chair Powell delivered several important insights about how the Fed is currently viewing the economic backdrop.

Tariff pass-through to inflation: Powell noted that, while it is still early days, tariffs are expected to be passed through to consumers. The Fed’s base case is that the tariff-induced boost to inflation will likely prove short lived, reflecting a one-time shift in the price level—but, with so many uncertainties still left to be resolved, it is appropriate to guard against inflation risk.

Tariff uncertainty: Recent news flow has cleared up some of the tariff questions, but tariff discussions likely still have much further to go—so tariff uncertainty remains elevated.

Labor market supply dynamics: Powell described the labour market as robust and that the full employment target is currently being met. He acknowledged that labour demand is cooling and that there are downside risks but, as labour supply has also decreased due to declining immigration flows, the labour market is in balance.

Current policy stance: The Fed funds rate is sitting at “modestly restrictive” levels. Powell noted that of their two targets in their dual mandate, inflation is further away from goal than the labour market is. If the two goals move closer into balance, then policy should move to a more neutral setting.

Policy outlook

Chair Powell gave away very little during today’s press conference. This shouldn’t be a surprise—there is currently too much uncertainty for the Fed to signal a clear policy direction for September.

However, FOMC Governor Waller has more conviction than Powell (and us) about the outlook and has adopted a very dovish tone. His concern that labour market demand is cooling rapidly is gaining traction, both within the committee (as reflected in the dissent from Governor Bowman) and among analysts. It is not inconceivable that he will gain more support over the coming weeks, particularly if the upcoming jobs and inflation reports are weak, suggesting that the odds of a September rate cut are fair.

Our own view has been that the robustness of the economy, alongside expectations for a tariff-induced boost to inflation, not to mention persistent government policy uncertainty, mean that the Fed should remain on hold until later this year. But, with the drumbeat apparently growing louder within the Fed, an earlier rate cut is a clear possibility.

Principal Asset Management