Trimmed mean inflation at multi-year low complicates Warsh's 2% push

PCE inflation ran at 3.7 percent in June, yet trimmed mean indicators that strip out outlier price swings have fallen to their lowest levels since the early 2020s, exposing a widening gap in how the Fed reads price pressures.

"These comments seem to confirm suspicions that the task forces are just covers to redefine the inflation challenge away," Michael Feroli, chief US economist at JPMorgan Chase & Co., wrote in a note to clients.

The divergence has rattled the $2 trillion market for inflation-linked Treasuries. The 30-year breakeven rate — a market gauge of expected inflation derived from the spread between nominal securities and inflation-linked ones — surged by the most since 2024 after Warsh's remarks. The 30-year Treasury yield hit its highest level in 19 years, while three Fed governors dissented from the July decision to hold rates at 3.5 percent to 3.75 percent, voting instead for higher rates.

Warsh has established task forces to examine the Fed's inflation frameworks and the economic data it monitors, with findings expected after January. "We're going to deliver 2 percent inflation and not a whisper more," he said Wednesday, while adding that he's "looking at a broader set of inflation data than PCE." If the Fed shifts its measurement approach, it could alter the policy path at a time when CME FedWatch data shows a 36 percent probability of a rate hike at the next meeting.

The Case for a Broader Inflation Lens

Trimmed mean estimates, which exclude the top and bottom readings of inflation data to provide a clearer view of where most items are trending, point to a cooler underlying picture than headline PCE suggests. The gap between the two measures has widened as energy prices surged past $100 a barrel following US strikes on Iran, pushing headline inflation higher while leaving the core distribution of price changes relatively contained.

Warsh's suggestion that the Fed could look beyond PCE drew immediate pushback from economists who warned that abandoning the long-standing gauge would undermine the central bank's credibility. "It's not at all obvious what they would turn to, and more importantly what criteria would guide their selection," said Jeffrey Lacker, former president of the Federal Reserve Bank of Richmond. "You've got to select a reliable, broad-based index. There are only two: the PCE price index and the CPI. That's it."

The last time the 30-year breakeven rate moved this sharply was in 2024, when inflation expectations were repriced higher following a run of hot CPI prints. That episode preceded a period of elevated market volatility across both Treasuries and equities.

What a PCE Shift Would Mean for Markets

JPMorgan's strategists have recommended clients wager on an increase in inflation expectations via the five-year-forward price for five-year inflation swaps, betting that the market will continue to price in higher long-run inflation even as trimmed mean indicators cool.

The policy stakes are significant. The Fed has held its benchmark rate at 3.5 percent to 3.75 percent for five consecutive meetings, and economists polled by FactSet expect another hold at the next FOMC gathering. But with oil above $100 a barrel and the US-Iran conflict escalating, the probability of a hike later in 2026 has risen, according to CME FedWatch.

Warsh's pared-down approach to communications has compounded the uncertainty. At Wednesday's press conference, he declined to specify what economic conditions might warrant a rate hike, and he refused to submit individual economic projections at the June meeting. Nearly half of policymakers said they would support a rate hike later this year.

"The economy is soft and vulnerable," Mark Zandi, chief economist at Moody's Analytics, said on X. Labor productivity increased just 0.3 percent in the first quarter of 2026, revised down by half a percentage point, while second-quarter GDP slowed to 1.5 percent, according to Bureau of Economic Analysis data.

The divergence between headline and trimmed mean inflation leaves Warsh with a difficult choice. If he embraces the broader data set, he could justify holding rates steady or even cutting. If he sticks with PCE, the 3.7 percent reading pressures him toward tightening. Either path carries risks for a central bank already navigating political pressure from the White House and a market that has lost confidence in its communication strategy.

This article is for informational purposes only and does not constitute investment advice.