The Sound of Silence
Last week was a whirlwind, literally. By now, many have seen the viral footage of the storm that plagued our backyard in central Ohio, lifting a moving car on I-71 and flipping it over. Subsequent power outages left many in darkness. One could easily be forgiven for letting the mind wander to the tune of Simon and Garfunkel’s “The Sound of Silence” in this period of quiet. The atypical hush allowed us to also ponder why we haven’t heard much from our central bankers. Indeed, there were only five scheduled speakers last week, despite fresh reports about labor and inflation that typically garner much more guidance.
To be sure, the minimal communication from Federal Reserve Chair Kevin Warsh was expected, but it hasn’t stoked instability so far. Meanwhile, the 10-year Treasury yield traded within a 12-basis-point (bp) range (4.61% to 4.73%), while the war in the Middle East didn’t appear to escalate. Both the Consumer Price Index (CPI) and Producer Price Index came and went. According to the Bank of America MOVE index, which measures volatility in the bond market, volatility declined in the month to date, too.
Warsh is just a week away from celebrating his 90th day as Fed Chair. To date, he has logged three public speaking appearances: a post-Federal Open Market Committee (FOMC) press conference (June 17), a European Central Bank Forum panel in Portugal (July 1), and a two-day Congressional testimony (July 14–15). Still, Warsh’s media “abstinence” isn’t that different from the behavior of previous Fed Chairs Janet Yellen and Jerome Powell, who spoke publicly just six and five times, respectively, during their first 90 days. In fact, during the first three months of all three chairs (Yellen, Powell, and Warsh), their respective public statements represented just 6% to 8% of all speeches given by Fed officials (Figure 1).
While Warsh’s public communication has been slightly less frequent than that of Yellen and Powell, it has nevertheless been fairly consistent. For example, the July FOMC meeting contained no rate change along with a mostly balanced view regarding appropriate monetary policy, given the inflation and labor backdrop. To this point, Richmond Fed President Tom Barkin laid out an argument last week to hold interest rates steady, considering the signs that inflation is declining; but Barkin also acknowledged the risk that some price pressures could become embedded, eventually forcing officials to tighten policy.
When looking at today’s inflation, Barkin also pointed to economic shocks as the catalyst for elevated prices. “Much of today’s elevated inflation level has come from shocks [including higher tariffs and oil prices], which should pass,” he said. While the energy-price shock continued to fade in July (Figure 2), the broader inflation data has yet to show the improvement that Barkin expects.
The headline inflation figure rose by 0.1% in July, following June’s 0.4% decline. After stripping out the food and energy indices, inflation only increased by 0.2% in July as well. As the charts on the right side of Figure 2 show, monthly inflation has also been decelerating. And despite persistently elevated inflation, the CPI report was moderate in July, coupled with similarly tame levels in June. Policymakers will see additional reports on employment and inflation before the FOMC’s next meeting on September 15–16. Investors will be listening closely to Warsh’s remarks at the Fed’s annual Jackson Hole symposium later this month, too. As one Morgan Stanley economist put it, “in-line inflation will keep the ‘no need to hike rates’ narrative that took hold after last week’s jobs report intact. There will be another round of inflation data before the September FOMC meeting … unless those numbers tell a much different story, the Fed will likely still be in a position to leave rates unchanged next month.”
Markets are now assessing the probability that the Fed can thread the needle: keeping policy accommodative enough not to tip the labor market over, but not so accommodative that inflation becomes rampant. The challenge, however, is that financial conditions are approaching the most accommodative they’ve ever been, according to the Bloomberg U.S. Financial Condition Index (Figure 3). The index—which represents a z-score, or the number of standard deviations that the current environment deviates from “normal” (i.e., pre-Great Financial Crisis) levels—sits at 1.332. A positive score is accommodative, while a negative score is restrictive.
So far, it seems that the Fed’s hawkish (and minimal) rhetoric has partly done its job. Markets priced in hikes, with as many as two for the balance of 2026 (Figure 4). Subsequently, financial conditions also dropped toward parity. Despite this reaction, the economic data itself hasn’t really warranted a move in any direction since Warsh’s confirmation.
At present, the labor market is satisfactory, neither too strong nor too weak, and inflation is moving in the right direction, albeit slowly. To that end, markets have begun to walk back some of their initial views of rate hikes. This new repricing of lower rate-hike expectations has led financial conditions to leak toward the easier side.
According to federal funds rate futures, hikes at the September and October meetings are certainly in play, but the probability of such action is declining. At present, a rate hike of some kind may come just in time for Santa Claus to greet it, yet that outcome would hinge on a much noisier inflationary picture.
As for Simon and Garfunkel, they clearly preferred a chattier Fed: “Fools,” they famously sang. “You do not know, silence, like a cancer, grows.” Nonetheless, markets are now pricing in reasonable interest-rate movements based on economic fundamentals, which is exactly what Warsh wants.
A separate but important issue is the threat of a future government shutdown. To avoid one, Congress must pass a new spending package, or temporary funding extension, before the fiscal year ends on October 1. It seems highly likely that an agreement of some kind will come to fruition, since both parties should be motivated to avoid a politically damaging shutdown before midterm elections in November. In fact, both chambers of Congress have already passed their own versions of a stopgap bill, lowering the threat of an October 1 shutdown.
Among the differences in the two bills was that the House version extends funding until December 4, while the Senate version does so until December 11. That both bills are kicking the proverbial can into December is telling that all sides want to get past midterms without bloodshed. The true risk of a prolonged shutdown battle therefore probably lies in December.
FROM THE DESK
Agency CMBS — Volumes were fairly light for the week and there were no material changes to the commercial real estate story. Fannie spreads were flat to one bp tighter, while Ginnie spreads were flat to biased wider, week over week.
Municipals — AAA tax-exempt yields were largely flat this week, as the municipal market extended its August rebound after a weak July. Robust reinvestment cash flows and continued mutual fund demand helped support market technicals, allowing investors to absorb over $18 billion of new issuance with little pressure on pricing. With August serving as the final significant reinvestment month of the year, demand for tax-exempt paper remains solid despite elevated supply. Municipal bond funds attracted $758 million of inflows during the week, including $339 million into high-yield funds, reflecting continued investor appetite for both high-quality and spread-oriented opportunities.
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