Fed in July: A Weaker Case for Hiking

Summary

Thoughts on the Market — "Fed in July: A Weaker Case for Hiking"
Date: July 28, 2026
Hosts: Matthew Hornbach (Global Head of Macro Strategy), Michael Gapen (Chief U.S. Economist)

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Episode Overview

In this insightful episode, Matthew Hornbach and Michael Gapen break down the current landscape as the Federal Reserve heads into the July FOMC meeting. With market participants debating if the Fed will hold rates steady or resume hikes, the hosts discuss recent economic data and policy signals. Their central thesis: the case for a July rate hike is now weaker than it was in June, setting the stage for a likely pause and a wait-and-see approach through early fall.

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Key Discussion Points & Insights

1. The Fed’s Likely Path: Hold, Not Hike

[00:08-00:56]

• Matthew Hornbach: Opens the discussion by stating Morgan Stanley expects no change to the target federal funds rate (3.5%–3.75%) at the July meeting.
• The FOMC statement will likely emphasize the "ample reserve policy" and note solid economic activity despite ongoing uncertainty.
• Quote:

  “We expect the Fed to keep the target range for the federal funds rate unchanged at 3 and a half to 3 and 3 quarter percent.” — Matthew Hornbach (00:16)

2. Why the Case for Hiking Weakened

[00:56-02:50]

• Michael Gapen: The core argument for holding rates comes from softer economic data since June:
  • Labor market: Job growth has moderated. The previous perception of an accelerating labor market has faded, with reduced hiring momentum signaling less urgency for aggressive tightening.
    • June three-month average payroll gain was about 188,000/month, but recent data points to a slowdown.
  • Disinflation signals: Despite temporary volatility in oil—from Middle East tensions—the underlying data reveal notable softness in goods and services inflation, especially in the housing sector.
  • The Fed has room to pause, gather more data, and potentially move later in the year if inflation persists.
• Quote:

  “The case for hikes is not as persuasive now as it was in June... If disinflation is indeed here, the Fed stays on hold. If not, and inflation stays firm, they can move to rate hikes later this year.” — Michael Gapen (01:01, 02:28)

3. Upcoming Data and the Calendar Gap

[02:50-03:46]

• Hosts highlight the significant gap between the July and September FOMC meetings—longest on the Fed’s calendar.
• Additional labor and inflation reports will arrive before the next meeting, as well as the influential Jackson Hole symposium.
• Quote:

  “The gap between the July FOMC meeting and the September FOMC meeting is the longest on the Fed's calendar.” — Michael Gapen (03:06)

4. If the Fed DID Hike in July: The Rationale

[03:31-05:26]

• Gapen suggests possible reasons for an immediate hike:
  1. Sustained oil risk premium: If higher oil prices are seen as persistent, the Fed might act to preempt inflation.
  2. Risk management: Shifts in inflation risks (versus labor market) might argue for preventive tightening.
  3. Reaction function change: Fed Chair Warsh could desire a more aggressive pursuit of the 2% inflation target, emphasizing "actions over words."
• The uncertainty about Warsh's policy approach leaves markets guessing.
• Quote:

  “Maybe Warsh wants a regime change in the reaction function... at some point words are words and actions are actions.” — Michael Gapen (04:32)

5. Market Reactions: Signals from Bond Yields

[05:26-07:14]

• Hornbach: Bond market movements, especially real yields, have closely followed energy price increases.
  • If real yields outpace breakeven inflation, markets expect the Fed not to look through energy-driven inflation.
• Quote:

  “If the real yield is going up more than the break even inflation rate... it's telling you that investors think the Fed will not look through the rise in energy prices.” — Matthew Hornbach (05:46)

6. Fed Communication and Market Volatility

[07:14-09:07]

• Hornbach & Gapen: There’s an observed drop in public communication from the FOMC, possibly due to new Chair Warsh or just summer slowdown.
• Gapen expects no major changes to press conference frequency until the Task Force on Communications reports back (expected late this year), with possible changes in 2027.
• A reduction in Fed communication could create an information vacuum, increasing market volatility and allowing investors/analysts to set the narrative in the absence of official commentary.
• Quote:

  “If the Fed’s giving its view... less frequently, something else will fill that narrative. Whether it's markets or the private sector or whatever it is, vacuums are going to get filled.” — Michael Gapen (08:17)

• Hornbach reiterates that investors are already filling the void, focusing acutely on the nuances of Fed communication at each press conference.

7. Looking Ahead: The Importance of Press Conferences

[09:07-10:21]

• Investors will be watching the upcoming press conference intensely, parsing every word, tone, and omission from Chair Warsh to gauge future policy shifts.
• Decision-making in bond and currency markets will hinge on the perceived Fed reaction function and the clarity (or lack thereof) at these events.

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Notable Quotes & Memorable Moments

• On why the Fed will likely pause:

  “We think there's less of a case to hike in July than there was in June.”
  — Michael Gapen (02:38)

• On uncertainty over the new Fed Chair’s approach:

  “Right now we don't exactly know what his reaction function is. And he could reveal it this week.”
  — Michael Gapen (04:37)

• On potential volatility in the absence of regular Fed communication:

  “Vacuums are going to get filled. The Fed speaking less, somebody else will speak more. Maybe that drives volatility more.”
  — Michael Gapen (08:23)

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Key Timestamps

• 00:08: Morgan Stanley's baseline for July FOMC — hold rates steady
• 00:56: Recent data weakening the hiking case
• 02:50: The long gap between meetings and importance of coming data
• 03:46: The (weaker) case for hiking now
• 05:26: How the bond market is interpreting Fed policy signals
• 07:14: Discussion of Fed communications and possible changes in press conferences
• 09:07: Investor behavior and the critical role of Fed press conferences

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Tone and Final Thoughts

The discussion is measured and analytical, emphasizing data dependence and policy nuance. Both hosts highlight the interplay between Fed signals, market expectations, and the new chair’s uncertain policy stance. They agree that investor sentiment and volatility are tied not only to economic fundamentals, but crucially to the clarity and frequency of central bank communication.

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For those tracking the Fed’s every move, this episode offers a nuanced, boots-on-the-ground perspective on why July points to a pause—and why what happens next may all come down to data, communication, and the new Chair’s reaction function.

Transcript

[A]

Welcome to Thoughts on the Market. I'm Matthew Hornbach, Global head of Macro Strategy.

[B]

And I'm Michael Gapen, Morgan Stanley's chief U.S. economist.

[A]

Today, will the Fed hold or hike? It's the question in the market right now. It's Tuesday, July 28th at 9:30am in New York. Will the Fed display patience or has it run out of patience? That's the question hanging over the July FOMC meeting currently underway. We believe the former. We expect the Fed to keep the target range for the federal funds rate unchanged at 3 and a half to 3 and 3 quarter percent. The statement will probably also remain unchanged, reiterating the ample reserve policy. Economic activity expanding at a solid pace despite elevated uncertainty. So Mike, what's your assessment of the situation beyond.

[B]

Beyond that, Our assessment of the July FOMC meeting is actually the case for hikes is not as persuasive now as it was in June. And I think when we say that and when we come to the decision, the Fed will stay on hold this week, we're basing it mainly on the data that has come in since the June FOMC meeting. And two important pieces on that front are employment growth moderated. So in the June meeting the three month average payroll gain was running at about 188,000 per month. And I think it gave the sense that the labor market was really accelerating and there was downside risk to the unemployment rate. The subsequent employment data changed that view. Now it looks like there is much less of an acceleration in hiring and momentum has slowed. So the labor market doesn't look quite as robust. Second, there was a lot of information, we think a lot of signal about disinflation. So yes, recent volatility in the Middle east did push oil prices temporarily higher. We'll see where that goes. But underneath the hood there was significant softness in goods inflation and services inflation, particularly related to housing. So we do think that there was a lot of evidence that disinflation is here. So with those two things in mind, we think there's less of a case to hike in July than there was in June. So we think the right thing, or what we think the Fed will do is to skip July, try and buy a little more time, get a little more information. If disinflation is indeed here, the Fed stays on hold if not, and inflation stays firm while they can move to rate hikes later this year. But we think the case to hike in July is less compelling than it was in June.

[A]

Well, they certainly will get a lot more information between The July meeting and the September meeting, if memory serves, at least two more rounds of all of the major economic data points, payrolls, CPI and so on.

[B]

That's right. The gap between the July FOMC meeting and the September FOMC meeting is the longest on the Fed's calendar. Of course, in part that makes room for Jackson Hole in August, which if the Fed were moving to a tightening cycle, could be a venue to lay out the case for that. But you're right, they will see multiple employment and inflation reports before they meet again in September.

[A]

If they really wanted to get ahead of that data and move at this meeting. What is the case for hiking rates in July? How would you think about that perspective?

[B]

I think you could make a couple of cases to hike now. One is recent volatility and conflict in the Middle east has pushed oil prices higher. Maybe it convinces you you're in a prolonged oil risk premium scenario and inflation will not dissipate. Second, I think you could argue, well, it's a balance of risks argument and we think risks have just shifted in the direction of inflation where last year they were in the direction of a weaker labor market we eased last year. Let's just reverse those risk management rate cuts this year. So it's not about inflation in hand, it's about your view of risks around inflation. Another I think, and to me this is the most important one, is maybe Warsh wants a regime change in the reaction function. In other words, he emphasizes price stability and achieving the 2% target. Well, at some point words are words and actions are actions. And maybe what he desires is a more hawkish reaction function and kind of a higher interest rate, all else equal to guide inflation down to 2% more quickly. So I think, Matt, if we're wrong this week, I think the main reason we're wrong is I'm thinking under an older reaction function and Warsh is bringing a new one. And right now we don't exactly know what his reaction function is. And he could reveal it this week as being in a direction where he really wants to concentrate on the inflation side of the mandate to the exclusion of nearly everything else.

[A]

Well, I don't think that's lost on markets at all. In fact, I think that the ris in yields we've seen in the bond market, concentrated in the real yield component of the 10 year treasury bond, tells you a lot about how investors are thinking the Fed will react to higher energy prices. As energy prices have gone up, so have bond yields. The relationship between those two asset prices are very strong. And usually what that suggests is if the real yield is going up more than the break even inflation rate is going up as energy prices rise, it's telling you that investors think the Fed will not look through the rise in energy prices. If you have the opposite happen where your break even inflation rate is going higher, more so than the real interest rate is going higher, that would suggest investors think the Fed will look through the energy price increase. That just hasn't been the case. And so I think investors are very much attuned to what they think is the right reaction function for the Fed. But I guess we'll see. Only time will tell. And I think in order to help us tell what the right reaction function is, we'll need some communication from the Fed. And maybe that's where I want to go next with you is on communication. It does seem like there have been fewer FOMC participants speaking to the public since Chairman Warsh began his tenure as chairman. Is that your impression? How do you think about communication? And since we are in the midst of this FOMC meeting, the press conference, what do you think about press conferences going forward?

[B]

I do think you're right. I haven't counted up the literal official FOMC communications. I do think there have likely been fewer speeches and or interviews given recently. Now, whether or not that's a function of Kevin Warsh as the chairman or it's summer and things move a little slower, I don't know. I will say though, that when participants have spoken, I think we're getting the same, say, normal communication that they brought in the past. So far I don't read participants as unwilling to provide their view about the outlook for the economy and for monetary policy on the press conference. Boy, would that be a change. I've been of the view that you probably will not get what I'll call a major change to the ceps or the press conferences in terms of their frequency until the Task Force on Communications has run its course, where I think the deadline is ultimately later this year. So I don't think the schedule of press conferences will change until 2027, if it changes at all. But if we don't have them, the way that I would look at that, Matt, is to say if the Fed's speaking less, there will be a vacuum out there to some degree. So if the Fed's giving its view on the outlook and monetary policy less frequently, something else will fill that narrative. Whether it's markets or the private sector or whatever it is, vacuums are going to get filled. The Fed speaking less, somebody else will speak more. Maybe that drives volatility more. I guess it would depend on the situation, but I think polling press conferences would be a major surprise. I don't think it's in market expectations, and my belief is it would probably lead to some increase in volatility over time. How would you read it?

[A]

Absolutely. I think the void has already begun to to be filled by by investors and how they think about the Fed's reaction function, rightly or wrongly. Which is why I think we've seen real yields move in a very positively correlated way with energy prices. Investors are intuiting a certain reaction function to higher energy prices. Whether or not that is the correct view, only time will tell. And if we do have a press conference at this upcoming meeting, which it looks very likely that we will, investors are going to, as they have done now really since the press conferences began, they're going to pay attention to every nuance, every shift in tonality of the Chairman's voice. How he chooses to address certain questions versus others, or whether he chooses to address questions will certainly be important for market participants and how they invest in the bond and the currency markets. Well, with that, Mike, thanks again for taking the time to talk. I look forward to catching up with you again in late August around the Jackson Hole Symposium.

[B]

Great speaking with you, Matt.

[A]

Thanks for having me on and thanks for listening. If you enjoy thoughts on the market, please leave us. A Review Wherever you listen and share the podcast with a friend or colleague today, the preceding content is informational only and based on information available when created. It is not an offer or solicitation, nor is it tax or legal advice. It does not consider your financial circumstances and objectives and may not be suitable for you.