With Kevin Warsh’s May 22 swearing-in ceremony as the Chair of the Federal Reserve for the next four years, the markets expect the central bank will continue to hold the benchmark interest rates steady despite President Donald Trump’s persistent demands for drastic cuts.
With the increasingly hot inflation reports and forecasts due to the energy shocks of the Iran War, some Fed policymakers and Fed watchers have been raising the odds that the Federal Open Market Committee will have to raise rates on short-term borrowing within the next 12 months.
But as bond traders rapidly escalated expectations that further rate cuts are off the table for the foreseeable future, one top economist and market strategist says not only will a rate hike come much earlier than expected but that tightened monetary policy will actually help advance Trump’s economic strategy and not damage it.
Ed Yardeni, President & Chief Investment Strategist at Yardeni Research, said in a May 18 note that the Fed would need to deploy a 25 basis-point hike to the Federal Funds Rate at its July meeting.
“We expect the Fed to hold rates unchanged at the June meeting and shift to a tightening policy stance,’’ the note said, adding that the macroeconomic backdrop no longer supports an easing bias, let alone a rate cut.
But the note also said a more hawkish Fed under Warsh than investors expect “would actually work in Trump’s favor via its downward effect on long-term Treasury yields.”
Yardeni said a tightening bias from the Warsh Fed early will help tamper the jitters of the bond market thus holding down yields and allow the central bank later flexibility on rates.
“So by acting hawkishly, Warsh might have a chance of delivering what the White House wants: lower real-world borrowing costs,” he said. “Mortgage rates could fall, corporate financing would ease, and Trump can point to declining long-term yields as the economic win.”
Bond market ups Fed rate-hike forecast
Bond traders have been preparing for higher inflation risks since the Iran War began in late February.
And that preparation includes the possibility that the central bank will need to raise interest rates sooner than anyone expected, especially at the beginning of the year when Trump nominated Warsh to replace Jerome Powell as Fed Chair.
The CME Group FedWatch Tool raised the probability of a 25-basis-point rate hike this year to 50% to 60%, up from 40% early last week.
Related: ‘Unhinged’ bond yields reset Fed rate-cut odds
The 30-year Treasury yieldtopped the 5% threshold last week and the benchmark 10-year yield hit the 4.5% mark for the first time since June 2025. The two-year yield rose above 4% for the first time in 11 months.
Inflation rises, jobs stabilize in latest reports
Economists are broadly forecasting that the April Personal Consumption Expenditures inflation report — the Fed’s preferred inflation gauge due May 28 — will remain elevated and reinforce expectations that the central bank keeps the benchmark Federal Funds Rate higher for longer.
The Bureau of Economic Analysis released the March PCE on April 30, showing an acceleration in headline inflation largely driven by energy costs.
- Headline PCE (Year-over-Year): 3.5% up from 2.8% in February.
- Core PCE (Year-over-Year): 3.2% (excluding food and energy) up from 2.9% in February.
The Bureau of Labor Statistics on May 13 said the April Producer Price Index jumped 6%, the biggest year-over-year increase since 2022.
The April Consumer Price Indexalso came in hot on May 13, jumping to 3.8% on a year-on-year basis, outstripping workers’ earnings for the first time in three years and marking the highest inflation print since the post-pandemic recovery in May 2023.
- The headline CPI climbed 0.6% from March, while the core gauge excluding food and energy costs rose 0.4%.
- Energy prices soared 17.9% year-over-year, with gas prices up 28.4% and fuel oil prices up a whopping 54.3%.
The Fed’s own annual target of 2% inflation has not been met in five years, mostly due to the lingering impact of the pandemic, but tariffs and energy shocks have caused the recent spikes.
Despite the rising energy costs fueled by the Iran War, U.S. employers added more jobs than expected for a second month in April and the unemployment rate held steady at 4.3%, the Bureau of Labor Statistics reported.
Fed’s mandate requires a tricky balance
The Fed’s dual mandate from Congress requires maximum employment and stable prices.
- Lower interest rates support hiring but can fuel inflation. This risks fueling further inflation, potentially leading to an inflationary spiral.
- Higher rates cool prices but can weaken the job market. This increases the cost of borrowing and further stifles economic activity.
The FOMC continued to hold the funds rate, which impacts the cost of short-term borrowing, steady at 3.50% – 3.75% during its April 30 meeting.
This came after policymakers cut rates by 25 basis points at their last three meetings of 2025 to shore up the softening labor market.
The next FOMC meeting is June 16-17 and will be the first with Warsh as Chair.
Donald Trump and other White House officials have repeatedly called for the central bank to slash rates dramatically in the last year to 1% or lower, mainly to reduce the amount of interest on the nation’s $38.91 trillion debt.
Yardeni offers four factors for Fed rate hikes
Yardeni’s forecast of a July rate hike is generally more aggressive than most expectations, with the CME Group FedWatch Tool expecting a 4.2% of the hike at that time.
The note said that the Fed “must catch up to the bond market to avoid losing control of borrowing costs,” adding, “By now, they might need to see a tightening stance rather than a neutral stance. A surprise FFR rate hike might actually please them!”
Yardeni’s note’s arguments for a July rate hike:
- Inflation expectations are becoming unanchored. Market-based breakeven inflation rates are pushing steadily higher, suggesting that investors are beginning to fear a more permanent inflation regime.
- Wage-price-spiral risk is gradually rising. The friction between improving labor demand and structural supply constraints may be intensifying. If demand outstrips productivity gains, unit labor costs will rise, and companies will pass those costs onto consumers. Should both risks deepen, the Fed’s next logical step would be a formal shift to a tightening bias, effectively warning that rate hikes are back on the table.
- The war isn’t over. The Strait of Hormuz remains closed. Oil prices might resume their climb well above the current level of about $100 a barrel. A longer war with higher oil prices would broaden inflationary pressures.
- The Bond Vigilantes want the Fed to hike. Perhaps the most compelling reason for the Fed to adopt a credible hawkish stance is that the Bond Vigilantes are already taking over, maintaining law and order in the credit markets. The Fed needs to get ahead of the inflation curve to stop this from continuing.
“A more hawkish Warsh than the financial markets expect might stop bond yields from rising,’’ the note said.
