Further Fed hikes hinge on staying power of AI, tariff and energy shocks, Daly says

Mary Daly, president of the Federal Reserve Bank of San Francisco, told Axios that overlapping inflation pressures will help determine whether more rate increases will be needed.

• Supply constraints linked to AI could be longer-lived than the one-to-three-year horizon the Fed normally applies when expecting shocks to fade.
• Some companies are reserving future memory-chip supplies and changing product designs to cut their dependence on chips.
• AI-driven demand could pull chips away from cars, appliances and other sectors, taking price pressures beyond data centers.
• A bigger reliance on debt could leave those large tech companies more vulnerable to financing costs.
• She sees tighter policy as able to restrain inflation even if the largest AI spenders pay limited attention to interest rates.
• She favored the September rate hike because inflation risks had climbed.
• Additional tightening might prove unnecessary if tariffs, higher oil prices and AI-related strains turn out to be temporary.
• Another set of tariffs could hit the economy as a second shock while the initial one has yet to fade.
• The Fed will keep an eye on the labor market as it evaluates whether underlying inflation is accelerating.

Analysis

Daly backed September's rate increase, but she has not locked in another move. The deciding factor is whether these inflation shocks melt away or keep showing up in prices. If energy costs ease and tariff effects filter through, there is scope for the Fed to stay on hold. If those pressures last, or yet another shock lands, further tightening stays possible.

The AI element adds difficulty. Rate increases can curb borrowing and spending, but they cannot quickly boost chip supplies. In the meantime, the biggest AI investors may keep spending even while financing costs squeeze other businesses. For traders, the message is conditional: softer supply pressures would bolster the case for a halt. Wider price gains and firmer underlying inflation would bolster the case for another increase.

Markets take Daly's remarks in stride

Daly's comments are drawing little response in markets. With her outlook hinging on conditions, traders see little need to adjust their policy expectations.

US stocks were still higher, with major indexes extending gains and on track for record closes (S&P, Nasdaq composite and Nasdaq 100):

• Dow industrials: 51,626.15, up 353.04 points, or 0.69%.

• S&P 500: 7,837.44, up 63.48 points, or 0.82%.

• Nasdaq Composite: 27,678.84, up 201.53 points, or 0.73%.

• Nasdaq 100: 31,295.09, up 218.65 points, or 0.70%.

• Russell 2000: 2,843.98, down 3.16 points, or 0.11%.

Treasury yields were lower across maturities:

• 2-year yield: 4.7954%, down 3.76 basis points.

• 5-year yield: 5.0284%, down 3.76 basis points.

• 10-year yield: 5.2709%, down 4.01 basis points.

• 30-year yield: 5.6391%, down 2.49 basis points.

The mix of firmer equities and softer yields suggests traders are not alarmed by her remarks. Daly laid out the risks but gave no clear sign that another rise is coming. The open question is whether supply pressures will ease or turn into more lasting inflation.