Market Gives Only 17% Chance, Economists Call It "Fifty-Fifty": Is the Fed's October Rate Hike Suspense Severely Underestimated?

The U.S. CPI in September rose 3.7% year-on-year, and the PPI surged to 6.3%, with prices of non-energy goods accelerating upward, indicating that inflation has structural stickiness. Several economists predict that the probability of a rate hike in October far exceeds market pricing, with some directly forecasting consecutive hikes in October and December. Despite facing a politically sensitive period just six days before the midterm elections, if the Fed unexpectedly acts to suppress inflation, it could severely impact the currently unprepared market.

Written by: Dong Jing, Wall Street Journal

The futures market shows little regard for a Fed rate hike in October, but economists are sending out starkly different warning signals.

Currently, the futures market gives only a 17% chance of a Fed rate hike in October, betting that the central bank will remain on hold. However, according to a recent report by MarketWatch, several economists believe that the monetary policy meeting on October 27-28 is far more suspenseful than what market pricing suggests. Former Bank of America Securities Chief Economist Ethan Harris bluntly stated that this is a "fifty-fifty" judgment; Matthew Martin, an economist at Oxford Economics, was even more explicit, directly predicting that the Fed will raise rates in both October and December. These two opposing judgments reflect the high uncertainty of the current monetary policy path.

The core driving force behind economists raising their rate hike expectations is the unexpectedly high inflation data. An article from Wall Street Journal noted that the U.S. inflation data for September shows that consumer prices rose 3.7% year-on-year, while the wholesale inflation rate of the producer price index reached 6.3%, with prices of non-energy goods accelerating upward—this detail is particularly alarming, as the price volatility of such goods is relatively low, meaning that their strength indicates more persistent inflation pressure. Meanwhile, Fed Chair Kevin Warsh deliberately maintained neutrality during the IMF/World Bank annual meeting, refusing to pre-judge the outcome of the meeting, leaving the market without clear forward guidance.

If the October meeting is indeed as "undecided" as some economists judge, an unexpected rate hike would have a significant impact on U.S. Treasury yields, the dollar, and risk assets, profoundly reshaping market expectations for December and subsequent policy paths.

Data Turning Point: September Inflation Breaks the Consensus of "No Urgent Action Needed"

Before the latest inflation data was released, Fed officials generally conveyed signals of "no rush to raise rates," leading the market to form a baseline expectation of a pause in October.

However, the release of the September inflation data changed this picture. The year-on-year increase in the consumer price index reached 3.7%, and the wholesale inflation rate of the producer price index rose to 6.3%. According to MarketWatch, Martin from Oxford Economics pointed out that the concern is not the overall data, but the accelerated rise in prices of non-energy goods—due to the relatively low price volatility of these goods, their sustained strength better reflects structural inflation pressure rather than short-term disturbances.

Carl Weinberg, Chief Economist at High Frequency Economics, stated that he believes the latest inflation data will prompt enough Fed policymakers to shift towards supporting consecutive rate hikes in October and December.

The Fed completed its first rate hike in three years in September, adjusting the interest rate range to 3.75% to 4%. Former Philadelphia Fed President Patrick Harker pointed out that the current interest rate level does not seem to exert substantial downward pressure on the economy, indicating that the tightening policy is still insufficient. He believes that quickly raising rates by 25 basis points in both October and December, followed by a pause for assessment, would not only help suppress inflation but also strengthen the Fed's credibility as an inflation fighter.

Politically Sensitive Window: Will the Fed Take the Risk of Raising Rates Six Days Before the Election?

In addition to considerations of policy rhythm, there is another unavoidable reality factor for the camp supporting a pause in October—the rate decision on October 28 is just six days away from the midterm elections on November 3.

Some economists believe that the Fed is reluctant to take action on the eve of the election to avoid being interpreted as politically motivated; whether raising or not raising rates could trigger political criticism.

However, Ethan Harris holds a reserved attitude towards this concern. He stated that the midterm election factor is merely a "minor factor" for the Fed, and "no matter how the Fed acts, there will be criticism; the president (Trump) will criticize them regardless." This judgment implies that political pressure itself is not a sufficient reason for the Fed to deviate from its data-driven decision-making framework.

In terms of communication strategy, Fed Chair Warsh deliberately maintained ambiguity in his last public statement before entering the quiet period. During the IMF/World Bank annual meeting in Bangkok, he stated, "I don’t think we should pre-judge the actions I might take at the remaining meetings this year." This deliberate neutral statement neither paves the way for an October rate hike nor closes off this possibility, objectively increasing the difficulty of market interpretation.

Two Paths: Fast and Slow, Each with Costs

Faced with the tension between inflation data and policy rhythm, the Fed actually faces two clear policy path choices.

Path One: Consecutive rate hikes in October and December. Supporters believe this plan can more quickly raise rates to a level that imposes substantial constraints on the economy while signaling the Fed's heightened vigilance against inflation to the market. Lindsey Piegza, Chief Economist at Stifel Financial, pointed out that a rate hike in October would send a signal of "high concern for inflation," creating space for the market to spontaneously raise rates and further suppress economic demand.

Path Two: Skip October, raising rates only in December and March next year. Supporters argue that a pause can give the Fed more time to assess data and determine whether the tightening is sufficient. Aditya Bhave, Head of U.S. Economic Research at Bank of America Global Research, wrote in a client report that the benefit of a pause is that it gives the Fed more time to observe data and calibrate the terminal rate; however, the cost is that, against the backdrop of a still strong U.S. economy, the Fed may face the risk of "falling behind the curve."

Piegza also warned that if a more patient path is chosen, the public may begin to doubt whether high inflation will persist in the long term, thereby undermining the Fed's effectiveness in managing inflation expectations.

If an Unexpected Rate Hike Occurs in October: Market Impact Cannot Be Underestimated

The current 17% rate hike pricing means that if the Fed indeed presses the rate hike button in October, the market will face significant repricing pressure.

In terms of U.S. Treasury yields, an unexpected rate hike would directly push up short-term yields and could also drive long-term rates higher, exacerbating fluctuations in the yield curve. Regarding the dollar, the repricing of rate hike expectations typically supports the dollar, and the dollar index may strengthen in the short term. In terms of risk assets, the stock market and credit markets will come under pressure, especially growth stocks and high-yield bond sectors that are sensitive to interest rates.

The more profound impact lies in the reshaping of subsequent policy paths. If a rate hike occurs in October, the market will be forced to reassess the rate hike rhythm for December and even next year, and the previously moderate expectation of "raising rates once per quarter" will face fundamental revisions, with terminal rate expectations also rising accordingly.

As Harris stated, the Fed committee is generally dovish and may resist rapid consecutive rate hikes—but the continued unexpected inflation data is compressing the space for this hesitation. The market pricing a 17% chance of a rate hike in October may be underestimating the true intensity of this policy game.