Kevin Warsh’s first Federal Reserve meeting as chair mattered less for the rate decision than for what he revealed about how the Fed intends to operate. Warsh signaled a shift toward less guidance and more flexibility: a simplified policy statement, no forward guidance (including not submitting his own rate path projection), and new task forces to reassess key Fed operations. The task forces were likely designed specifically to question internal consensus and create tension – “good family fights,” according to Warsh.
Under Warsh, the Fed wants more information from markets and outside experts and more flexibility to pivot as conditions evolve. It also wants external data to drive market expectations, not its own guidance.
In general, this likely means less anchoring of expectations, more volatility in front-end rates, and a higher probability of policy surprises in either direction. (Read more in last week’s Macro Signposts on Warsh’s first Fed meeting as chair.)
Given the specific macro conditions of the moment, which were already layered with uncertainty and above-target inflation, we believe the Fed’s shift toward less guidance and more flexibility could contribute to tighter financial conditions – even if the Fed refrains from tightening policy by raising rates. Without the Fed as a perceived steady anchor, risk premiums across asset classes – with some exceptions – may need to increase.
Risk premia and economic uncertainty
Taking a step back: In the wake of the global financial crisis in 2008–2009, forward guidance was designed (along with other policies such as large-scale asset purchase programs) to provide accommodation when the conventional policy rate was pressed against the zero lower bound. The Fed’s Summary of Economic Projections (SEP) was an additional helpful tool in this regard. The idea was that through anchoring interest rate expectations and reducing risk premium, the central bank could further ease financial conditions without needing to further reduce its policy rate.
Now that rates are well above lower-bound constraints, there is arguably less need for forward guidance. Many central bankers have argued that monetary policy transmission works best when it’s easily understood by markets. That doesn’t mean central banks have to pre-commit to any one specific policy path; rather, they explain their outlook and the distribution of risks around their mandate such that markets understand how policy might evolve with evolving conditions.
By stepping away from that framework, the Fed likely will increase the uncertainty risk premium embedded across financial markets. When investors have less confidence in the path of interest rates, they might not be able to price risk as effectively, and this could discourage excessive risk-taking. This does not necessarily imply tighter policy in the conventional sense, but it does imply tighter financial conditions as investors demand higher risk premia.
Macro uncertainty was already elevated
The effect on markets may be amplified today because the environment is shaped by a combination of changing supply and demand forces that are unusually difficult to disentangle in real time. Inflation remains above target and has recently accelerated somewhat, due to both supply and demand. This matters because policy should push against persistent demand that is contributing to above-target inflation, as opposed to a series of temporary supply shocks, which the central bank should look through (assuming inflation expectations are anchored).
Geopolitical tension, energy disruptions, supply-chain restructuring, and tariffs – all negative supply shocks – are coinciding with pockets of resilient demand in the form of a surge in AI-related capital spending and related wealth effects. Under Chair Jerome Powell, the Fed largely characterized inflationary sources as stemming mainly from a series of supply shocks that the Fed could look through.
That view could be changing (learn more in our recent Macro Signposts, “Supply Shocks and AI-Related Demand Blur Inflation Signals for the Fed”). Based on the June SEP, Fed officials appear divided, while more recent developments in the Middle East and oil markets may have taken out a substantial source of supply-related inflationary pressure.
A less prescriptive Fed therefore arrives precisely when uncertainty surrounding the factors driving the inflation process itself is unusually high.
The challenge of quantifying AI’s broader impact
The accelerated implementation of AI is further complicating matters, with skyrocketing prices for chips and memory capacity spilling into consumer prices. AI may be disinflationary over time if it raises productivity, expands effective supply, and lowers unit labor costs. But in the near term, the AI boom appears likely to contribute to higher prices for consumer electronics.
More important, AI may also be supporting demand through a wealth effect that standard macroeconomic statistics struggle to capture in real time.
Wealth effects are traditionally measured by the average propensity to consume out of wealth. However, increasing wealth bifurcation in the last several decades, which has accelerated with the advent of AI, has changed the way wealth gains have contributed to consumption. Specifically, rising wealth concentration has reduced the average propensity to consume out of wealth. The majority of wealth is concentrated in the top 20% of households, which have lower propensities to consume it.
At the same time that wealth has become more concentrated, it has also grown a lot, especially in the context of strong equity returns associated with expectations for AI-enabled productivity gains. More important, standard statistics may be underestimating the extent of the wealth generation. Because highly skilled labor compensation to build AI technology has migrated away from standard salary or cash compensation, which is well captured by the statistics, to equity-linked compensation, its magnitude is less well captured.
In recent decades, stock compensation has become a greater share of total pay, and that has further accelerated in the age of technology (especially in AI-related sectors). Both deferred and unvested stock-based compensation and equity-linked wealth are underreported in official government data. The key measurement issue is the wide gap between the timing of economic accrual and the timing of statistical recognition. National product and income accounts (NIPA) from the U.S. Bureau of Economic Analysis (BEA) report stock-based compensation as income when it vests (if it is reported at all – some equity-linked compensation structures aren’t reported). So even though wealth is accruing on paper, and potentially changing the spending habits of those who receive it, the magnitude of the effect on the broader economy is difficult to measure.
Based on company filings, we estimate that S&P 500 companies issued roughly $250 billion in deferred equity-linked compensation in 2025 alone. Assuming similar levels of compensation in recent prior years, plus three- or four-year vesting schedules and recent equity market returns, this implies an aggregate unvested compensation balance that could be on the order of a trillion dollars or more.
This wealth is highly concentrated among a small share of households with less propensity to consume out of it. However, its increasing size may represent an underappreciated source of demand resilience. Even a relatively small share of this wealth flowing into spending and consumption could generate demand to pressure inflation higher – especially in durable and luxury goods – on the margin. The existence of a large stock of expected future equity wealth may also reduce these households’ perceived need for precautionary saving out of cash compensation; this helps explain why U.S. consumption has remained resilient and the personal savings rate has remained unusually low despite high interest rates.
Put differently, although the bottom 80% of households are still increasingly constrained by higher costs and stagnant income growth, U.S. spending may be stronger than what’s typically expected given current wage and salary income alone, due to the changing compensation structure for the highest-income households.
Equity markets amid inflation
If equity wealth is indeed a factor supporting above-target inflation (alongside supply shocks), then equities may become part of the transmission mechanism to cool inflation as well. While the Fed does not target asset prices, if wealth effects are contributing to resilient demand, then some moderation in equity valuations may become part of the mechanism through which tighter financial conditions restrain spending.
The risk premia embedded in current equity prices appear low relative to history and today’s macro and market uncertainties (learn more in our latest Secular Outlook, “Rupture and Resilience”). Thus, the loss of the Fed’s forward guidance anchor, and a rising risk that the Fed tightens to cool increasing wealth-related demand, could be consequential, as it happens just as investors are separately questioning how the AI enablers can ultimately capture sufficient economic returns to justify the scale of compute-related investment underway.
Bottom line
Warsh’s announced changes at the Fed arrived at a moment when inflation remains difficult to diagnose, financial markets are highly dependent on expectations around AI, and risk premia are compressed. Markets are forward-looking, and prices are sensitive to an ever-changing distribution of risks. A less predictable Fed is likely to tighten financial conditions in normal times. But in the current moment of economic transformations with less certain macro implications, it could contribute to the need to price greater uncertainty into asset markets, or to a greater frequency of market-driven adjustments in financial conditions more generally.
For investors, this argues for a greater emphasis on diversification; indeed, a high quality, globally diversified bond allocation may provide compelling risk-adjusted returns. Though investors may see potentially greater volatility in shorter-dated policy rates, attractive longer-term yields can help bonds serve as an anchor for diversified portfolios across a variety of macro scenarios.
When the Fed is providing less guidance, even subtle changes in the perceived reaction function could have meaningful consequences for asset prices and financial conditions. That may ultimately prove more important than any individual rate decision.
