This is arguably the most important week of the third quarter for the stock market. In addition to it being the busiest week of earnings season, the Federal Reserve weighed in on interest rates, inflation, and the state of the American economy today, July 29.
While earnings reports have undeniably played a role, the Dow Jones Industrial Average (DJINDICES: ^DJI), S&P 500 (SNPINDEX: ^GSPC), and Nasdaq Composite (NASDAQINDEX: ^IXIC) precipitously declined after Fed Chair Kevin Warsh and the Federal Open Market Committee (FOMC) delivered their decision to leave interest rates steady.
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Though it would be easy to assume that Wall Street and investors were disappointed that the FOMC didn’t act in the face of a significant increase in inflation since February, there’s much more to this story. It was two choice words uttered by Fed Chair Warsh at his post-meeting press conference that sent the stock market over the edge.
Kevin Warsh’s blunt message spooked Wall Street
In many ways, Warsh’s prepared statement to the press and his responses to their queries matched the tone of his first FOMC meeting as Fed chair in June. He stood by the idea of withholding forward-looking guidance and took a tough stance on inflation, proclaiming that the FOMC will work to deliver price stability.
However, the head of the Fed’s repeated commentary on “economic shocks” roiled Wall Street:
My colleagues and I considered the economic shocks of recent years. Strained supply chains arising from the pandemic, military conflicts, energy-supply disruptions, substantial increases in tariff rates, and yes, the surge in AI-related investment.
While some of these inflationary shocks are out of our control (e.g., the COVID-19 pandemic), Warsh not-so-subtly points to President Donald Trump’s persistent tariffs and the Iran war as ongoing economic shocks to the U.S. economy. Even though some shocks quickly dissipate, the tone taken by Warsh suggests they’re likely to be longer-lived, which poses a serious problem for the stock market.
If tariffs continue to lift consumer prices, and Core Personal Consumption Expenditures show evidence of Iran-war-driven inflationary pressures spilling over into the broader economy, the FOMC may be left with little choice but to raise interest rates.
