Federal Reserve Chair Warsh plans to gradually reduce the number of annual interest rate decisions from eight to six, triggering concerns on Wall Street about heightened volatility in the U.S. Treasury market.
Investors warn that as the Fed reduces the frequency of policy decisions and gradually downplays forward guidance on the future rate path, the $32 trillion U.S. Treasury market could face greater policy uncertainty, and bond yield volatility could widen accordingly.
Warsh unveiled the reform plan on Wednesday after the Fed announced it would keep rates unchanged. Under the arrangement, the Fed will reduce rate decisions to seven in 2027, then further to six per year, with the remaining two meetings mainly devoted to discussing broader strategic issues. Warsh said the move is intended to give policymakers more time and space to study major economic and monetary policy issues in greater depth. However, market participants worry that reducing the number of rate decisions could prove counterproductive, making Fed policy adjustments harder to predict.
Fewer Decisions Could Amplify Market Swings, Treasury Risk Premiums Face Upward Pressure
Traders note that as the intervals between rate decision meetings lengthen, the Fed may need to take larger rate hikes or cuts at individual meetings to respond to economic changes accumulated in between. At the same time, if the economy or financial markets suddenly suffer a major shock, the likelihood of the Fed taking emergency policy action outside scheduled meetings could also increase. These changes could not only intensify short-term U.S. Treasury yield volatility but also prompt investors to demand higher risk compensation, thereby pushing up long-term bond yields. Isaac Wheeler, managing director of balance sheet strategy at financial derivatives services firm Derivative Path, said: "This is the clearest signal yet that the Fed under Warsh has no intention of continuing to act as a suppressor of rate market volatility. If conditions require, the Fed is entirely willing to increase market volatility through unexpected policy announcements." Scott DiMaggio, head of fixed income at AllianceBernstein, also believes that reducing the number of rate decisions could have a long-term impact on the U.S. Treasury yield curve. He pointed out that if Fed policy adjustments become more abrupt, the market will need to price in higher risk premiums for potentially sharp future swings. "Over the long term, because of these volatility events, the yield curve will contain more risk premium."
Short-Term Treasuries Rise, Long-Term Treasuries Under Pressure, Yield Curve Steepens Further
Notably, the Fed's plan to reduce the number of rate decisions could have vastly different effects on U.S. Treasuries of different maturities. Traders believe that with the Fed still expected to hike rates further to curb inflation, fewer policy decisions could mean fewer opportunities for the central bank to take tightening measures. This could lower market expectations for further short-term rate increases, benefiting short-term U.S. Treasuries. But rising policy uncertainty could push up risk premiums on long-term bonds, leaving long-term Treasuries relatively weak. On Wednesday, after Warsh announced the reform plan and sent dovish signals at a press conference, short-term U.S. Treasury prices rose and yields fell. In contrast, long-term U.S. Treasuries lagged, pushing the Treasury yield curve steeper. Data shows that since Wednesday, the U.S. 30-year Treasury yield has risen about 10 basis points relative to the two-year Treasury yield. This shift reflects that investors, on one hand, have lowered expectations for short-term policy rates, and on the other hand, have begun demanding higher risk compensation for long-term monetary policy uncertainty.
Warsh Pushes Fed Communication Reform, Forward Guidance May Gradually Fade
Reducing the number of rate decisions is only part of Warsh's push to reform the Fed's monetary policy communication mechanism. Since taking office as Fed Chair in May this year, Warsh has consistently emphasized the need to promote fundamental changes in the central bank's policy framework and promised to bring an "institutional transformation" to the Fed. He believes the Fed's overreliance on forward guidance may limit policymakers' ability to flexibly adjust rates in response to changing economic conditions. Warsh argues that such policy communication tools should mainly be reserved for special periods such as economic crises, rather than becoming a regular component of monetary policy. To that end, he has set up a dedicated working group to study the Fed's communication strategy, including the arrangement of press conferences and the dot plot system that reflects officials' future rate expectations. Warsh first raised the idea of reducing the number of rate decisions at the Fed's July meeting this year and formally announced the related adjustment plan on Wednesday. He said the new meeting arrangement will allow policymakers to rethink some major issues without having to discuss whether to adjust rates at every meeting. Kerry Craig, global market strategist at JPMorgan Asset Management, believes Wednesday's announcement marks the Fed entering a new era of policy communication. He said this means the Fed is beginning to shift toward a model of releasing fewer policy signals in advance, and more adjustments to communication mechanisms may follow.
Short-Term Impact May Be Limited, But Long-Term Volatility Risk Not Fully Priced In
Although investors have expressed concerns about the reform plan, the market's reaction to its short-term impact remains relatively limited. Traders note that some indicators measuring expected rate volatility over the next two years have barely changed, partly because the Fed has not yet disclosed all the details of the new meeting schedule. Currently, the Fed has only said that one meeting in the fall of 2027 will be dedicated to strategic issues, but has not specified which meeting. Traders and economists generally believe the October meeting is most likely to be adjusted, since it was not originally scheduled to include quarterly economic projections. In addition, the market generally expects the Fed to end this rate-hiking cycle in a year. Pricing in the overnight index swap market shows that rate expectations from September to December 2027 are basically flat. This means that even if October no longer includes a rate decision, the direct impact on short-term rate expectations may be relatively limited. However, investors warn that combining fewer rate decisions with downplaying forward guidance could have a more profound impact on the future Treasury market. Ali Hassan, portfolio manager at Thornburg Investment Management, said: "Fewer rate decision meetings, plus a lack of forward guidance, will lead to larger repricing around each policy meeting and push rate volatility beyond what the market currently expects." Overall, the reform pushed by Warsh aims to improve the flexibility of Fed policymaking, but it also means investors may find it harder to anticipate the central bank's policy actions in advance as they once did. For the $32 trillion U.S. Treasury market, the decline in Fed policy predictability could become an important factor driving higher rate volatility and long-term bond risk premiums.
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