The Fed abandons forward guidance on interest rates, sparking higher expectations for rate hikes in this data-driven era

On July 1, Federal Reserve Chair Powell gave his first major international speech since taking office at the ECB Sintra Annual Forum, and his key statements drew widespread attention from global markets. He officially announced that the Fed will no longer provide forward guidance on interest rates and that future policy decisions at each meeting will be fully based on current economic data, without locking in a specific policy path in advance. At the same time, he reiterated that U.S. inflation remains high and that the Fed is committed to its 2% inflation target. This major shift in policy framework completely overturned the market's previous expectations of easing and marked the Fed's monetary policy officially entering a new data-driven stage.

Forward guidance on rates has been a core tool of the Fed's monetary policy framework for over a decade. By clearly signaling the likely path of future rates, the Fed can effectively influence long-term rate expectations and reduce market disruptions from policy adjustments. Abandoning forward guidance now is essentially a proactive choice by the Fed amid rising inflation uncertainty. In May, the U.S. core PCE price index rebounded more than expected, breaking the market’s consensus that inflation would continue to decline and causing previously widely priced-in expectations of rate cuts this year to quickly fade. Withdrawing policy commitments and returning to a fully data-driven approach not only avoids being constrained by market expectations but also leaves plenty of room to adjust policy flexibly based on inflation trends.

The market's reaction to this statement was directly reflected in the rapid rise in rate hike expectations. Pricing in the interest rate futures market shows that the probability of the Fed raising rates by 25 basis points in September has risen to around 80%. However, it’s worth noting that the real economy data released on the same day showed clear divergence: June’s ADP employment added only 98,000 jobs, and the ISM manufacturing PMI fell to 53.3. Both numbers came in below market expectations, indicating that the momentum of the U.S. economy is showing signs of marginal cooling. This set of contradictory data has also led to market disagreement: slowing employment and manufacturing reduces the urgency for aggressive rate hikes, but sticky core inflation prevents the Fed from turning dovish. Investors are now focused on the upcoming nonfarm payroll data, using it as a key indicator to judge September’s policy direction.

Losing forward guidance as an anchor will have long-term and deep impacts on global financial markets. For assets like U.S. stocks and bonds, once the stable policy expectation base is gone, asset price volatility will rise significantly. Previously, the market could plan medium- and long-term trades based on the Fed’s clear guidance, but now the possibility of policy adjustments exists at every FOMC meeting, meaning the impact of monthly economic data on the market will be continuously amplified. For global markets, rising expectations for Fed rate hikes will support the dollar index and U.S. Treasury yields at high levels, putting continuous pressure on capital flows and exchange rate stability in emerging markets, and valuations of global risk assets will also face long-term constraints from a high-interest-rate environment.

Overall, the Fed abandoning forward guidance isn’t simply a hawkish shift; it’s a pragmatic choice amid uncertainties in both inflation and economic growth. Until inflation stabilizes and returns to target, the Fed won’t easily signal easing; meanwhile, signs of marginal economic cooling limit the space for large and sustained rate hikes. Upcoming nonfarm payroll and CPI inflation data will become the core basis for policy decisions, and the market will truly enter a new phase of 'data-driven pricing.' For global investors, adapting to higher policy uncertainty and staying alert to market turbulence caused by high-frequency data fluctuations will be a key issue for asset allocation in the second half of the year.