The Three Words and One Answer from Yesterday's Press Conference: Wall Street is Pondering 'Waller's Approach'

Author: Wall Street Journal

At the press conference following yesterday's interest rate hike, Federal Reserve Chairman Waller defined the nature of this rate increase with three words: "dose of accommodation". When pressed about the position of interest rates relative to the neutral rate, his response was equally thought-provoking: this concept is "academically useful", but it has "no operational effect on our decisions today".

These three words and one answer are forcing Wall Street to rethink the current Fed's path of interest rate hikes and policy framework.

In Waller's framework, after the target range rises to 3.75%-4%, the policy stance remains stimulative—this rate hike merely removed "one dose" of accommodation. The neutral rate—the core anchor for the Fed's assessment of policy tightness over the past decade—has been set aside from an operational perspective.

CME FedWatch data shows that the probability of another rate hike in October has jumped from 42% a week ago to about 58%. Goldman Sachs and Bank of America have both raised their rate hike expectations, with Bank of America also predicting another hike in December. The futures market implies that the interest rate at the end of 2027 will be 4.635%, indicating three to four more rate hikes ahead.

"Dose of Accommodation": Rate Hike Only Removes One Dose of Accommodation

Waller repeatedly emphasized this statement at the press conference, pointing out that the basis for the rate hike decision is that the U.S. economy appears to have "strengthened", and financial conditions have become less tight.

Krishna Guha, head of economics and central bank strategy at Evercore ISI, stated in a client report that this was the "most prominent hawkish element" of the press conference. "This was not a slip of the tongue. He repeated it several times, clearly after careful consideration," Guha wrote, "This framework has a substantive difference from the language the Fed has used in recent years, suggesting that the number of rate hikes could be open-ended."

James Egelhof, chief U.S. economist at BNP Paribas Securities, interpreted that in the Fed's dictionary, accommodation means stimulus. "This implies that the current monetary policy stance is significantly stimulative. Under conditions of a stimulative starting point, strong cyclical momentum, and persistent inflation, substantial rate hikes may be needed—perhaps more than the three we expected—to stabilize unemployment and prevent overheating of the economy next year."

If Waller's framework is taken literally—Guha further pointed out—"interest rates may need to continue rising until the financial conditions faced by the private sector are no longer 'accommodative'—however that is defined. This is quite an open-ended outlook."

Neutral Rate Out, Monetarism In

At the press conference, CNBC reporter Steve Liesman asked how far current interest rates are from the neutral rate (r*).

Waller mentioned that as an economics student, he studied the neutral rate, known as the "Wicksellian real rate" after Swedish economist Knut Wicksell. This concept is "academically useful and helps us think about policy discussions", but it has "no operational effect on the decisions we make today".

This statement needs to be understood in context. Since the Bernanke era, the neutral rate has been the core reference for the Fed's policy-making—rates above the neutral level are considered tight, while those below are considered accommodative, with policy discussions revolving around this invisible benchmark. Waller has characterized it as purely an academic discussion, effectively dismantling this operational framework that has been in place for over a decade.

Some analysts have pointed out that Waller is steering the Fed's decision-making logic towards monetarism, calling it a "seismic shift". His predecessor Powell—who remains on the FOMC as a board member—has repeatedly rejected the basic principles of monetarism. Waller had already hinted at this direction during the Jackson Hole meeting in August, suggesting a connection between changes in the money supply and economic activity and inflation.

This press conference further confirmed this orientation. Waller clarified several positions that are highly consistent with monetarism: individual price changes in food, energy, etc., do not "cause" inflation, and the Fed must ensure that these relative price changes do not produce second- or third-order effects; individual data points are "full of noise", and the trend is what matters; the Fed deals with aggregate issues—labor market, GDP, total spending, and overall inflation—but he also acknowledged that the lowest income groups, who live on wages without financial assets, will benefit the most from price stability.

Data on the money supply has already provided clues. Waller stated at the press conference at least twice that in recent months, he has found it difficult to describe financial conditions as "tight". Analysts have pointed out that the growth rate of the broad money supply in the U.S. has remained in the range of 6%-8% over the past 6 to 9 months, which is significantly too high—achieving the 2% inflation target would require this growth rate to drop to around 6%. Compared to the abstract and unobservable neutral rate, the growth rate of the money supply provides a more direct basis for policy judgment.

What is Wall Street Pricing In?

Jack Janasiewicz, chief portfolio strategist at Natixis Investment Managers, believes that Waller's statement of "dose of accommodation" "reinforces the hawkish tone, suggesting that the committee no longer views the policy as moderately tight", but he "does not believe this marks the beginning of an aggressive new tightening cycle", and is more inclined to interpret it as "withdrawing the Fed's insurance rate cuts implemented in the fall of 2025".

If the futures pricing materializes, Waller's Fed will at least reverse most of the rate cuts approved during Powell's tenure. However, the current focus of disagreement has gone beyond the number of rate hikes themselves—when the neutral rate exits the operational level and the money supply takes center stage, the market needs to adapt to a whole new set of policy coordinates. After three press conferences, Waller has provided the outline of his framework, but he has not given an answer to where the endpoint of the rate hikes lies.

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