The current Chair of the U.S. central bank, the Federal Reserve (Fed), Jerome Powell, is expected to reiterate at the upcoming meeting on March 18 that monetary policy will be decided “meeting by meeting.” The Fed is likely to keep the key interest rate at 3.5 to 3.75 percent, expects Jörg Held, Head of Portfolio Management at ETHENEA Independent Investors S.A.. However, the picture appears to be shifting: with Kevin Warsh, a genuine paradigm shift may be on the horizon, according to Held.
“The U.S. economy is losing momentum. In February, the labor market lost 92,000 jobs. The unexpected decline is fueling fears of an economic slowdown. What is noteworthy is that the figures for previous months have also been revised downward. In December, there were actually 17,000 fewer jobs rather than the initially reported 48,000 new positions. As a result, the unemployment rate rose to 4.4 percent.
Impact of the Oil Price Shock and the AI Boom on Inflation
In addition, the weak labor market coincides with persistent inflation. In February, the inflation rate stood at 2.4 percent headline and 2.5 percent core inflation, only slightly above the two-percent target. That should normally bring some relief. However, concerns about oil prices are likely to lead to higher inflation expectations, at least in the short term.
In the long run, however, there is a price-reducing counterforce: artificial intelligence. Advances in productivity could enable companies to absorb wage increases without raising prices, thereby exerting a dampening effect on inflation.
Looking Ahead: Strategy Shift Expected Due to the “Warsh Factor”
With Kevin Warsh, whom Donald Trump has nominated as the successor to Jerome Powell as Fed Chair, a paradigm shift could be approaching. Warsh is considered an advocate of lower interest rates. With him at the helm, the Fed could react more quickly and adopt a more accommodative stance. Combined with AI-driven productivity gains, we see room for significantly more rate cuts than currently priced in.
Markets are underestimating the scope for rate cuts and are almost stoically pricing in a single rate cut for 2026; the probability of another cut by the end of 2026 is estimated at ten percent. We consider this view fundamentally untenable. Warsh’s approach is not about blindly reacting to data but follows a clear concept:
- Bold rate cuts at the short end of the curve to support the economy.
- Market-based rates at the long end instead of artificial intervention.
- A consistent reduction of the Fed’s balance sheet to allow markets to “breathe” again.
