Fed raises rates for first time in 3 years, 2 months; signals one more hike this year
The Fed said on Sept. 16 local time that, following a two-day FOMC meeting in Washington, D.C., all 12 voting members agreed to raise the benchmark rate by 25 basis points. That puts the U.S. benchmark rate at 3.75%-4.00%, or 100 basis points above South Korea's 3.00% on an upper-bound basis.
It is the Fed's first rate increase since July 2023, three years and two months ago. In the interim, the Fed cut rates in September, November and December 2024 and in September, October and December of last year. It then held rates steady five consecutive times this year.
In its statement, the Fed said "economic uncertainty is due to geopolitical changes," acknowledging that the hike was partly influenced by the rise in international oil prices stemming from the Iran war. The Fed added that "job gains have kept pace with the supply of labor and the unemployment rate has changed little, while inflation remains elevated," and said "this action will contribute to the timely achievement of the 2% inflation objective." International oil prices have indeed topped $100 a barrel as the Middle East front spread from the Strait of Hormuz to the vicinity of the Red Sea. The August consumer price index released on Sept. 11 rose 3.4% from a year earlier, far above the Fed's target. Reuters noted that "the Fed dropped earlier language in the statement saying high inflation was due to supply shocks in the energy sector," adding that "this reflects policymakers' view that price pressures are too broad-based."
The Fed also put the median year-end rate projection at 4.125% in the dot plot within the SEP. That was 25 basis points higher than the 3.875% presented at the June FOMC meeting, implying room for roughly one more hike at the October or December meetings. As recently as the December and March FOMC meetings, Fed officials had projected a year-end rate of just 3.375%. In the span of every three months, their stance shifted from one cut this year to one hike to two hikes, steadily escalating the degree of tightening.
As in June, only 18 members excluding Warsh submitted rate projections. Warsh has taken a negative view of forward guidance and the dot plot since taking office in May, arguing they give the market inaccurate signals. Of the 18 who submitted projections, 12 expected one additional hike this year and four expected two. Only two saw the current rate holding through year-end. Bill Dudley, former president of the Federal Reserve Bank of New York, said in a Bloomberg TV interview on Sept. 10 that "a 25 basis point hike is too small to have a meaningful effect on economic activity."
The Fed also projected the personal consumption expenditures price index would rise 3.7% this year, 0.1 percentage point above its June forecast. It raised real U.S. gross domestic product growth by 0.1 percentage point each to 2.3% this year and 2.4% next year. It projected unemployment at 4.1%, 0.2 percentage point below the June figure.
Warsh: Inflation 'too high, for too long'... 'not yet restrictive'
Warsh also left the door open to further rate increases. In a 30-minute press conference immediately after the FOMC meeting, Warsh echoed the statement, saying "this policy action will contribute to returning inflation in a timely manner to the Fed's 2% objective." He added that "we made this decision at a moment when the U.S. economy appears to be strengthening," noting that "indicators such as new hiring, private incomes and business equipment investment have improved in recent months, but inflation has run above target for more than five years." Warsh added that "what is clear is that inflation has been too high, for too long."
Warsh cited a strengthening U.S. economy, still-elevated inflation and a changed geopolitical situation as reasons the Fed shifted from its July hold. "Inflation risks are tilted to the upside, while labor market risks are broadly balanced," he said, cautioning that "the trend is what matters, and because the data are noisy, relying too heavily on any single indicator is risky." Warsh also said "it is hard to describe current financial conditions as restrictive," adding that "this time we removed some of the accommodation." The remarks emphasized that the hike was less a full-fledged tightening than a partial unwinding of the cuts delivered from September to December last year.
Asked whether a rate hike could be an appropriate response to higher oil prices stemming from a blockade of the Strait of Hormuz, Warsh said "what we have to do is ensure that some price changes do not spread through the broader economy and generate second- and third-round effects," adding, "that is our responsibility." Asked when he last spoke with Trump, Warsh said he had "nothing to say." He nonetheless noted that "independence runs both ways," adding that "those responsible for trade and fiscal policy also need to stay in their own lanes." The comment read as aimed at Trump and Treasury Secretary Scott Bessent, who have sought to push rates lower through trade and fiscal tools.
On the pre-emptive rise in bond yields ahead of the Fed's decision, Warsh said "they are moving to reflect the future, so I want to leave them free." He attributed the rise in Treasury yields to a strengthening U.S. economy, competition among hyperscalers to secure capital expenditure funding and conflicts around the world.
Short-term yields jump, long-term yields fall... watch for renewed Trump-Fed clash
Financial markets were immediately rattled by the Fed's more hawkish-than-expected stance. New York stocks, which opened mixed, all turned lower right after the FOMC results were released. The Dow Jones Industrial Average (-1.21%), the Standard & Poor's 500 (-0.45%) and the Nasdaq Composite (-0.01%) all closed down.
The 10-year U.S. Treasury yield, the bond market benchmark, and the policy-sensitive two-year yield rose 2.24 and 7.28 basis points to 5.0180% and 4.7360%, respectively, on the prospect of near-term tightening. The 30-year yield, by contrast, fell 0.65 basis point on expectations the Fed's decision would tame long-term inflation. According to CME FedWatch, the federal funds futures market priced a 50.1% probability of a 25 basis point increase by year-end, a 38.6% chance of 50 basis points and an 11.3% chance of no change. Jeffrey Gundlach, chief executive of DoubleLine Capital and known on Wall Street as the "new bond king," said in a CNBC interview that "the Fed should have hiked 50 basis points and watched how the data came in," arguing it should have delivered a stronger jolt to markets.
Economic data released the same day broadly matched the Fed's read of an economy growing solidly alongside rising rates. The National Association of Home Builders and Wells Fargo said their housing market index fell three points from August to 32 this month, the lowest since September of last year. A reading below 50 means more builders view housing market conditions as poor. The market was hit directly by heavier mortgage rate burdens as long-term yields climbed. By contrast, August retail sales released by the Commerce Department rose 1.2% from July, beating the 0.8% consensus compiled by Dow Jones.
Market attention is now also turning to whether Warsh will square off with Trump just four months into his term. With midterm elections set for Nov. 3, a rate increase risks raising the interest burden on national debt and diluting the effect of tariffs for Trump. Trump indeed criticized the Fed on his social media platform Truth Social immediately after the FOMC meeting, writing that "interest rates in the United States should be 1% or lower." Trump argued that "we are by far the most creditworthy country in the world," adding that "if we stopped trading with most of the countries with which we run trade deficits, we would earn at least $1.5 trillion a year." White House deputy press secretary Kush Desai also attacked the decision on Fox News, calling the Fed's rate increase "a highly regrettable decision" that was "not supported by any particularly compelling economic rationale."
Aboard Air Force One en route to North Carolina, Trump said he had spoken with Warsh by phone before the Fed's rate decision and told him to "vote with the board since the outcome wasn't going to change anyway." Trump said "the Fed board is very hostile and political," while defending Warsh: "I trust Chair Warsh."
While the Fed framed this FOMC meeting as a one-off rate increase, Wall Street is not entirely ruling out the possibility that tightening continues into next year. The deteriorating situation in the Middle East is the biggest concern. If clashes between Iran and Gulf states widen crude supply disruptions and international oil prices remain above $100 a barrel, the inflation problem could persist through next year. Whether the November midterm results alter Trump's governance is another point to watch.
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