Renewed inflation fears complicate Fed’s next rate decision

WASHINGTON (TNND) — The Federal Reserve is widely expected to leave interest rates unchanged this week, but renewed hostilities in Iran, rising oil prices and mounting uncertainty have raised questions about the Fed’s next move and set the stage for one of the most unpredictable meetings in years.

Most analysts expect the Fed to hold rates steady again at this week’s meeting, though fears of a second oil shock and stubborn inflation have increased the chances of a surprise increase. New Fed chair Kevin Warsh has taken a deliberately vague approach to signaling how the Fed is reading the economy and what direction policy may move.

The Fed chair has said for months the central bank will restore price stability after five consecutive years of inflation running above 2% but has offered little insight into how it will be accomplished. Unlike recent Fed chairs who frequently telegraphed their outlook toward policy, Warsh has given few clear signals about how he is viewing the economy.

Warsh is also navigating pressure from the White House. Trump has repeatedly urged the Fed to lower interest rates, arguing they would boost the economy and reduce borrowing costs. While he frequently ridiculed former Chair Jerome Powell over rates, Trump has struck a more measured tone with Warsh while continuing to press for lower rates.

“Kevin’s fantastic, but he’s got a board, and the board members are very political, I would say,” the president said on Monday. “He wants to do the right thing. I know what he wants to do.”

Warsh’s lack of guidance has left other Fed officials taking a more proactive approach to signaling where they think policy should go.

A growing chorus of members have signaled their patience on inflation returning to target is wearing thin after a series of economic shocks since the pandemic.

During the June meeting, half the 18 members of the FOMC projected they would need to raise rates this year, while the other nine projected no additional increases. The divide among the central bank underscores the challenging economic environment they are facing with continued economic shocks and uncertainties clouding the outlook.

The shift has also been reflected in financial markets. A week ago, futures traders priced the odds of a quarter-point increase at less than 10%. Those odds have jumped to nearly 30% as of Tuesday afternoon and are fully priced in for the September meeting, according to the CME FedWatch tool.

Recent economic data has helped lay out a case for waiting. Inflation declined in June thanks to a drop in energy prices, while other goods remained mostly flat in the consumer price index. The labor market has also returned to a stable state with no indications of a wage-price squeeze that could push inflation higher.

Fed officials who have been hesitant to raise rates this year have argued most of this year’s inflation has been driven by a series of shocks like tariffs and the war with Iran that will taper off.

“There are encouraging reasons to expect that inflation has peaked and should edge down in coming quarters,” New York Fed President John Williams said during an appearance last week.

But more officials are seeing an economy at risk of having inflation become entrenched, increasing the need to raise rates sooner rather than later. Years of elevated inflation, coupled with another oil shock, new tariffs and AI-driven price increases, are prompting more urgency from some to raise rates before it’s too late.

Higher oil prices can feed through to other parts of the economy through transportation, manufacturing and costs for consumer goods, making it harder for the Fed to bring inflation back to its 2% target.

Much of June’s progress on inflation is also likely to be short-lived after oil prices jumped back over $100 a barrel following renewed fighting in Iran. That possibility has added to the case for the Fed’s hawkish members for raising rates sooner rather than later.

“I currently believe modestly higher interest rates would better balance the outlook and risks for the FOMC’s maximum employment and price stability goals,” Dallas Fed president Lorie Logan said in a mid-July speech.

Several officials have also said they were willing to hold rates steady in the near future to give them more maneuverability in a time of mounting economic uncertainty, but that hikes may be coming if inflation doesn’t show concrete signs of returning to target.

“In a scenario where actual inflation does not start to cool down soon, I believe that it could be appropriate to reconsider our current policy stance to ensure we fulfill our commitment to deliver price stability,” Fed vice chair Philip Jefferson said in a speech earlier this month.

Whether officials act this week or wait until the fall, markets have shifted from asking whether rates are high enough to if another increase is becoming unavoidable.

“Warsh has come out and said that he is going to focus on getting back to 2% target for inflation, and so the only tool that’s available in the toolbox to do that — if we have a slowing economy too — is really through higher interest rates,” said Mark Williams, a finance lecturer at Boston University’s Questrom School of Business and former bank examiner at the Fed. “That hold steady approach doesn’t work in this newer environment.”