• Morgan Stanley (MS) forecasts the Fed will keep rates unchanged at 3.50%-3.75% in September.
  • Expected August core inflation near 0.2% MoM supports a patient approach.
  • Warsh's hawkish tone may be strategic, preserving flexibility rather than signaling immediate hikes.

A Delicate Balance

Morgan Stanley's economists argue that the Federal Reserve will hold its benchmark rate at the current 3.50%-3.75% range when the FOMC meets on September 15-16, despite Chair Kevin Warsh's notably hawkish speech at Jackson Hole. The bank's view hinges on expectations that August core CPI will rise just 0.23% month-over-month, with core PCE up 0.20%. Such figures would indicate gradual disinflation, giving the committee reason to wait before initiating a new tightening cycle.

Warsh's August 28 address left markets bracing for possible action, with fed-funds futures pricing in roughly 60% odds of a hike. Yet, as Morgan Stanley emphasizes, the speech was careful to avoid binding forward guidance. Warsh reaffirmed the Fed's commitment to its 2% PCE target, but he did not promise a September increase.

The Data Dependency

The decision, as always, will hinge on incoming data. The August employment report and inflation figures are due just days before the FOMC's gathering. Morgan Stanley's forecast of muted core inflation suggests that the committee can afford to hold steady, preserving the option to act later if price pressures reemerge.

A technical factor also supports patience: an upcoming revision to the PCE price index could lower annual core inflation from around 3.3% to nearer 3.1%. Such a revision would reinforce the narrative that underlying inflation is gradually cooling, reducing the urgency for an immediate hike.

Market and Political Undercurrents

Warsh's hawkish rhetoric has already stirred markets, lifting the dollar and front-end Treasury yields while pressuring gold and Asian equities. The political backdrop is equally fraught, as the September meeting falls less than two months before congressional elections. President Donald Trump has publicly called for lower rates, and a hike would intensify scrutiny of the Fed's independence.

Yet Warsh's stance may be calculated to restore credibility to the inflation mandate without locking the committee into a move that data might not support. As Bank of America (BAC) economists note, the burden is now on Warsh to either follow through with a hike or be backed by very soft data to justify restraint.

"The speech raised the threshold for complacency, but it didn't promise a September move," a senior economist at a major investment bank said, speaking on condition of anonymity.

Implications for Morgan Stanley and Beyond

For Morgan Stanley, a hold is largely beneficial. The firm's second-quarter results were stellar, with net revenue up 27% year-over-year to $21.35 billion and EPS growth of 62%. A steady rate environment supports wealth management fees and dealmaking activity, though prolonged tight policy could eventually dampen those tailwinds.

The broader economy remains finely balanced. Inflation is still above target, and Warsh highlighted that 54% of PCE components are rising faster than 3% annually. But some economists, like Goldman Sachs (GS)' Jan Hatzius, see August core inflation at 0.2% MoM, supportive of a pause.

Energy risks from U.S.-Iran tensions add another layer of uncertainty, potentially driving headline inflation higher in the coming months.

A Close Call

Deutsche Bank (DB) expects 50 basis points of tightening this year, split between September and December, while Goldman Sachs predicts a hold. Morningstar (MORN) sees a potential hike by October but underscores the incoming data's importance.

Ultimately, Morgan Stanley's forecast reflects a careful reading of Warsh's strategy: hawkish on principle, flexible in practice. The September meeting will be a test of whether the Fed can balance its inflation mandate with political and economic realities. As Warsh himself has criticized rigid forward guidance, the decision is likely to be a close call, shaped by the latest inflation and jobs figures.

Correction: This article has been updated to clarify that Warsh judged financial conditions as not restrictive, not that he considered them excessively loose.