FOMC Decision. We’re entering the Warsh era. What might the market fear?
The real question is how the new Federal Reserve Chair, Kevin Warsh, will approach his first macroeconomic forecasts (SEP) and whether he will decide to sharpen the removal of the easing bias in the face of returning price pressure. From a market perspective, today’s decision carries three key risks beyond the rates themselves.
Sharp tone in the statement and no cuts
After the recent rise in U.S. CPI inflation to 4.2% (the highest level in three years), investors assume that the Fed will be forced to definitively withdraw from its previous easing policy announcements. March’s forecasts (SEP) still indicated a single rate cut in 2026 in their median.
Currently the main risk is a shift of the dot plot toward no cuts at all, which would cement a "higher-for-longer" path. Such a change in rhetoric in the official communication would serve as the first signal of how much the new Fed Chair intends to prioritize fighting price pressure over concerns about cooling the labor market.
Liquidity and slowing RMP purchases
Beyond rate policy, a key issue remains balance‑sheet management. Since December, the Fed has managed reserves through Treasury bill purchases (RMP). The pace of these operations has been steadily declining – from a peak of $40 billion to $25 billion, and at the turn of May and June it fell to $10 billion, which had previously been communicated by Powell.
Warsh has long been a critic of using the balance sheet as a liquidity shield. If this decline in central bank engagement collides with a projected jump in Treasury debt issuance in Q3, U.S. yields could experience a noticeable rebound, amplifying tightening of financial conditions, especially if Warsh were to abandon RMP entirely or, for example, accelerate MBS sales or limit reinvestments.
End of precise forward guidance?
Kevin Warsh has already made himself known as a firm critic of over‑reliance on dot‑plots and overly clear forward guidance. In his view, excess guidance limits the central bank’s flexibility. Markets will therefore watch carefully whether today’s conference will bring less clear signals for the future.
Limiting this mechanism would force investors to take greater responsibility for pricing risk, which naturally could become a pretext for higher volatility.
Base scenario and market barometer
Because a lack of rate changes is likely a mere formality today, the main barometer of sentiment after 8 p.m. will probably remain the dollar’s condition and the bond market. If the Fed were to openly remove the cut forecast and simultaneously shed a hawkish light on liquidity, the U.S. currency might receive another strong appreciation impulse. Conversely, leaving a door open to easing despite higher inflation could quickly be interpreted as a crack in the new administration’s credibility, likely leading to a dollar sell‑off.
From an options pricing perspective, today’s implied O/N volatility of 10.92% for EUR/USD (calculated on a 252‑day convention) translates to an expected one‑day move of about 80 pips. The one‑day VIX1D for the S&P 500 index currently sits around 1%. If a test of upward resistance were attempted, we might see a test of historical peaks. On the other hand, a potential downward impulse could close the previously opened weekend gap.
