Editor's Note: Federal Reserve Chair Kevin Warsh is set to speak at the Jackson Hole Global Central Bankers Conference on Friday. Currently, US inflation remains above the Fed's 2% target, the Iran conflict and high oil prices have added uncertainty to the inflation outlook, and long-term US Treasury yields are near their highest level since 2007. The market hopes to get confirmation from this speech on how the Fed is prepared to address the increasingly prominent contradictions between inflation, growth, and financial conditions.
The real question is not just whether Warsh will send a rate signal. In recent times, he has, on one hand, emphasized not to overly rely on forward guidance and, on the other hand, provided less explanation of his policy framework. Meanwhile, the US Treasury has begun to increase its liquidity support for the long-term Treasury market. Monetary policy, debt management, and the government's desire to keep funding costs low are intertwined, making it more difficult for investors to gauge the boundaries of US policy.
The Financial Times Editorial Board believes that Warsh needs to use this speech to clarify how he plans to achieve the 2% inflation target, how he views the role of long-term rates in tightening financial conditions, and how he intends to maintain Fed independence. If these issues continue to lack clear explanations, the market's demand for an "uncertainty premium" may continue to be reflected in long-term Treasuries, the US dollar, and even global funding costs.
Therefore, the Jackson Hole speech is not only a policy outlook but also an opportunity for Warsh to repair communication with the market. What is worth watching next is not whether he provides a precise rate-cut path, but whether he can propose a coherent, verifiable, and politically unbounded policy framework.
Translation of the Original Text:
Every year in late August, the nighttime temperatures in western Wyoming begin to drop, and the trout in the Snake River will feed voraciously before winter sets in. The excellent fishing conditions initially attracted the fly-fishing enthusiast and former Federal Reserve Chairman Paul Volcker, leading to the Fed's annual meeting being permanently located here.
Now, the Jackson Hole Global Central Bankers Conference has become an important event for central bank officials, finance ministers, and economists to discuss monetary policy. This year, the market's attention will be focused on Friday's speech by Federal Reserve Chair Kevin Warsh.
Investors hope to find an answer to a central question: faced with inflationary pressures, rising long-term rates, and fiscal policy intervention in the bond market, how will Warsh formulate monetary policy?
Inflation has not returned to target, but long-term rates have reached a high
Warsh faces a challenging policy environment in the coming months.
The ongoing Iran conflict continues to disrupt the global market, with oil prices still higher than pre-conflict levels; while US inflation remains above the Federal Reserve's 2% target. At the same time, US government debt continues to grow, and the higher bond yields have further increased the fiscal interest burden.
The large-scale capital expenditure brought about by AI infrastructure development is also entering the interest rate discussion. The Financial Times Editorial Board believes that AI investment may increase financing demand, push up borrowing costs, and create a certain crowding-out effect on other economic sectors. This assessment currently belongs more to a structural explanation, and the specific impact of AI capital expenditure on long-term rates remains difficult to fully separate from factors such as fiscal deficits, inflation expectations, and term premiums.
The Treasury Department's bond repurchase arrangement has further added to the complexity of policy interpretation. On August 19, the US Treasury announced that the one-time liquidity support repurchase size for 10-20 year and 20-30 year nominal coupon securities would be increased from a maximum of $20 billion to at least $40 billion, with the new arrangement set to take effect on September 9 and continue until November 4.
This operation is mainly aimed at improving the liquidity of older securities and is not equivalent to the quantitative easing implemented by the Federal Reserve through balance sheet expansion. However, when long-term yields rise rapidly, the Treasury Department's increase in the size of long-term bond repurchases will still affect the market's assessment of whether the government is paying more attention to long-end financing costs.
The Powell Communication Approach Is Generating an "Uncertainty Premium"
The Financial Times believes that part of Powell's difficulties stem from his communication style.
Powell has long been against the central bank's excessive use of forward guidance, which involves hinting to the market in advance about the future rate path. In his view, overly explicit policy commitments may weaken the central bank's ability to flexibly adjust policies based on economic data.
However, reducing forward guidance does not mean that the market no longer needs to understand the Fed's policy framework. When investors are unable to judge how the central bank balances inflation, employment, and financial stability, the market usually demands a higher risk premium.
This additional compensation can be understood as an "uncertainty premium": investors, due to their inability to determine the future policy direction, require a higher yield to hold long-term bonds. Its impact will not be limited to US Treasuries but may further transmit to mortgage loans, corporate financing, and emerging market sovereign debt.
According to the Financial Times' explanation, Powell's limited public communication has not yet allowed investors to fully understand his assessment of the economic situation and policy path. Under multiple factors at play, long-term US bond yields have risen to near pre-2007 levels. The increase in yields cannot simply be attributed to inadequate communication, but the lack of a clear framework may amplify market concerns about inflation, fiscal policy, and policy independence.
Replacing Rate Hikes with Long-Term Rates Carries Risks as Policy Boundaries Blur
Powell seems willing to let higher long-term rates do some of the work of tightening financial conditions.
An increase in long-term yields would raise the cost of mortgages, corporate debt, and other long-term financing, dampening borrowing and demand, theoretically helping to ease inflationary pressures. In this framework, the Fed may not necessarily need to aggressively raise short-term policy rates in tandem to achieve a certain degree of monetary tightening.
The Financial Times acknowledges that this approach has some merit. However, the issue is that if Powell avoids hiking short-term rates while inflation remains above target and at the same time caters to the Trump administration's preference for lowering short-term funding costs, the market may begin to question whether the Fed's policy decisions are politically influenced.
The independence of central banks depends not only on institutional arrangements but also on market perception. Even if the policy itself has economic logic, as long as investors believe that the Fed is accommodating the government in suppressing financing costs, long-term US bonds and the dollar could come under pressure due to a loss of credibility.
The Treasury's recent actions have further fueled these concerns. Apart from increasing liquidity support for long-term bond repos, US government officials have expressed a willingness multiple times to lower borrowing costs. Stanley Druckenmiller, an investor who has had close relationships with Powell and Treasury Secretary Yellen, has also warned against allowing the Treasury to play too large a role in market pricing. His key assessment is that when the government tries to keep asset prices deviating from fundamentals in the long term, policy intervention often proves unsustainable.
This does not prove that there is already a formal agreement between the Fed and the Treasury to push down long-term rates, but the market has begun to view the policy directions of both under the same framework. Monetary policy is responsible for short-term rates, while the Treasury influences bond supply and liquidity through issuance structure and repos, making the boundaries between the two policy sets more crucial.
What Powell Needs to Address Is Not Just the Next Rate Decision
Historically, Jackson Hole speeches have often served as significant junctures in the Fed's policy narrative adjustment. In 2010, then-Fed Chair Bernanke signaled further asset purchases during the meeting, paving the way for the subsequent launch of QE2.
Powell has verbally committed multiple times to maintaining Fed independence and the 2% inflation target. However, according to the Financial Times, mere principled statements are not enough. The market needs to know how he plans to achieve the target through what mechanisms and how he will set policy priorities when inflation, growth, and long-term financing costs come into conflict.
Therefore, the most crucial point of observation in Friday's speech is not an isolated hint of a rate hike or cut but whether Powell can address several more fundamental questions: How will the Fed assess the extent to which long-term rates have tightened? Can higher long-term yields replace short-term rate hikes? Will the Treasury's debt management operations affect monetary policy decisions? In the face of the White House's call to lower funding costs, how will the Fed demonstrate that its decisions remain independent?
If Powell is able to provide a coherent policy framework, the speech could help reduce the market's uncertainty premium. If he continues to avoid specific mechanisms, investors will still need to speculate on the Fed's policy reaction function through economic data, Treasury operations, and political signals.
The so-called policy reaction function refers to the market's assessment of what action the central bank may take when inflation, employment, or financial conditions change based on the central bank's past behavior and public statements. Currently, what the market may lack is not necessarily a precise interest rate path but a framework substantial enough to explain how Powell makes decisions.
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