Podcast Summary: "Breaking Down the Fed’s New Course"

Podcast: Thoughts on the Market
Episode Date: August 28, 2025
Hosts: Matthew Hornbach (Global Head of Macro Strategy) & Michael Gapen (Chief U.S. Economist, Morgan Stanley)

Episode Overview

This episode dives into the surprises from Federal Reserve Chair Jerome Powell's comments at the latest Jackson Hole meeting. Matthew Hornbach and Michael Gapen analyze what the shift in tone means for future monetary policy, the path of interest rates, and broader economic risks. The conversation is wide-ranging, with a focus on the Fed’s new patient, risk-management posture and what this signals for markets in the months ahead.

Key Discussion Points & Insights

1. The Jackson Hole Surprise and Powell’s New Language

• Jackson Hole’s Unexpected Tone

  • Both stocks and bonds reacted sharply to Chair Powell’s address.
  • Powell explicitly stated: “…with policy in restrictive territory, the baseline outlook for the shifting balance of risks may warrant adjusting our policy stance.”
  • This caught Hornbach's attention, signaling a potential shift in strategy.
  • [00:20]

• Interpretation of Powell’s Message

  • Gapen asserts, “It was a surprise to me and I think I would highlight three aspects of his Jackson Hole comments that were important to me.”
  • The Fed is now more concerned about downside risk to the labor market, potentially due to July’s employment report showing unexpected weakness.
  • The statement implies a pivot to “risk management mode” — possibly earlier and more gradual policy rate cuts to shore up the labor market.
  • [01:01]

2. Signals from the Fed: A Shift to Risk Management and Caution

• Policy Stance “Largely Made”

  • Gapen highlights the significance of Powell explicitly mentioning adjustment:
    • “When the Chair explicitly writes in a speech that the economy now may warrant adjustments in our policy stance, I mean, that's a big deal. It suggests that the decision has been largely made.”
    • Implies a series of moves, not just one cut.
    • [01:45]

• Proceed Cautiously—No Large Surprise Cuts

  • Powell’s phrase “proceed cautiously” is interpreted as a cue:
    • “Don't expect that this time around. The world's different. This is a risk management discussion. And so we think two rate cuts before year end would be most likely, maybe you get three. But I don't think we should expect a large 50 basis point cut at the September meeting.”
    • Compared to the previous year’s aggressive action, this signals a more tempered, patient approach.
    • [02:35]

3. Updating the Path: Gradual, Quarterly Cuts Through 2026

• Forecasted Trajectory
  • Gapen’s baseline: Quarterly 25 bp cuts—September and December this year, then March, June, September, and December next year (2026).
    • Terminal fed funds range forecasted at 2.75-3.00%, a 25 bp upward shift from previous projections.
    • “So rather than moving later and more rapidly, you move earlier but more gradually. That’s how we’re thinking about it now.”
    • [03:54 — 05:20]

4. Alternate Scenarios: What Could Go Differently?

• What Might Stop the Fed from Cutting in September?

  • A much stronger August jobs report could delay rate cuts:
    • “You'd need a—I think—a really strong August employment report, something around 225,000 jobs … That would be a signal that the May June downdraft was just a … pothole and not trend deterioration in the labor market.”
    • [06:09]

• Faster/Larger Cuts or On-Hold Periods Possible

  • Possibility of a repeat of last year—bigger initial cuts, pause, then resumption if needed.
  • The Fed may show greater tolerance for above-target inflation in a “risk management” posture, affecting the ultimate level and pace of cuts in 2026.
    • “So we could even see a deeper trough through greater inflation tolerance.”
    • [07:05]

• Recession Scenario: Deeper Cuts

  • In a downturn, policy could be even more accommodative:
    • “Of course, in a recession alternative scenario, the Fed’s probably cutting much deeper, maybe down to 150 to 175 on the funds rate.”
    • [07:48]

Notable Quotes & Memorable Moments

• On the shift toward labor-market risk management:

  • Michael Gapen: “The July employment report told them perhaps there's more weakness in the labor market now than they thought. So I think the messaging here is about a shift towards risk management mode. Maybe we need to put in a couple policy rate cuts to shore up the labor market.”
  • [01:12]

• On the Fed’s new communication:

  • Michael Gapen: “When the Chair explicitly writes in a speech that the economy now may warrant adjustments in our policy stance, I mean, that's a big deal. It suggests that the decision has been largely made.”
  • [01:45]

• On approaching policy with caution:

  • Michael Gapen: “The phraseology proceeds carefully is a signal to markets that, hey, don't expect that this time around… This is a risk management discussion.”
  • [02:54]

• On the path ahead:

  • Michael Gapen: “So rather than moving later and more rapidly, you move earlier but more gradually. That's how we're thinking about it now.”
  • [05:14]

• Contingency thinking:

  • Michael Gapen: “As we like to say in economics, we forecast so we know where we're wrong.”
  • [06:11]

Important Timestamps

• 00:20 – Introduction of the Jackson Hole surprise
• 01:12 – Fed’s pivot to worry about labor market downside
• 01:45 – Powell’s policy adjustment language significance
• 02:35 – Interpretation of “proceed cautiously”
• 03:54 – Gapen lays out baseline rate cut forecast
• 05:14 – Discussion of more gradual approach and impact on terminal rate
• 06:09 – Alternative scenarios: what would delay or change the forecast
• 07:48 – Recession scenario and much lower potential policy rates

Tone and Delivery

Throughout, the episode maintains an analytical, calm, and data-driven tone. The hosts use measured language, acknowledging inherent uncertainty (“we forecast so we know where we’re wrong”) and emphasizing patience and incrementalism as the Fed shifts course.

This part one episode sets the table for further analysis in part two, where the focus will shift to market reaction, interest rates, and the US dollar post–Jackson Hole.