Goldman Sachs VP "Market fear is excessive"...Fed's 3-4 rate hikes 'pre-priced'

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Amidst the Federal Reserve (Fed) raising its benchmark interest rate for the first time since 2023, Wall Street has diagnosed that the market's hawkish fear is an overreaction and that financial markets have already priced in further tightening.

Robert Kaplan, Vice President at Goldman Sachs, stated in an interview with CNBC on September 17 (local time) that "Fed Chairman Kevin Warsh's remarks were not as hawkish as interpreted by the market." Kaplan, who previously served as President of the Federal Reserve Bank of Dallas, explained, "Chairman Warsh clearly articulated his intention to prevent the spread of price pressures in terms of supply shocks and risk management." He added, "The market's interpretation that interest rates will be raised beyond the level indicated by the dot plot is an excessive overinterpretation."

Considering the actual stance of monetary policy, this rate hike was an appropriate measure. Kaplan explained, "Interest rates at the previous level of 3.5% to 3.75% were at best neutral and in fact accommodative." He added, "To reach a neutral rate, we need to raise it to the current level or slightly higher." He further stated that, given the mixed performance of interest-sensitive sectors, excluding the introduction of artificial intelligence (AI) infrastructure and the defense industry, a few additional rate hikes indicated by the dot plot are justified for risk management purposes.

The pain experienced by marginal borrowers in the real economy, rather than shocks to the financial market, was identified as a bigger trigger. Kaplan pointed out, "The 2-year Treasury yield is already hovering in the early 4% range, meaning capital markets have already priced in this hike and the next 3-4 rounds of additional tightening." On the other hand, he warned, "Small and medium-sized enterprises (SMEs) using loans tied to the benchmark interest rate and low-income consumers whose purchasing power has decreased by 30% will be directly hit by the interest rate hike."

High-tech industries, which require massive capital investment, are expected to continue their operations even in a high-interest rate environment. Large-scale AI infrastructure construction projects, funded based on the Treasury yield curve and credit spreads, have low interest rate sensitivity and are already absorbing the market-reflected funding costs. In contrast, the brunt of tightening is concentrated on local businesses heavily reliant on bank loans and household debt borrowers, suggesting that the Fed should also closely monitor policy effects and real economic impacts.

[Key Takeaways]

-VP Kaplan assessed the Fed's benchmark interest rate hike as an appropriate risk management measure to normalize the accommodative stance.

-He diagnosed that the 2-year Treasury yield has already priced in 3-4 additional hikes, limiting direct impact on financial markets such as stocks.

-He predicted that AI infrastructure investments would proceed without a hitch, while SMEs using interest-linked loans and low-income households would be affected.

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