Federal Reserve Bank of New York President John Williams said he remains cautiously optimistic that inflationary pressures will ease over time, but he underscored that the U.S. central bank will not hesitate to raise interest rates further if inflation fails to move back toward the Fed's 2% goal.
In an interview on Friday, Williams said if energy costs and trade tariff effects have already peaked and the broader economy stays on solid footing, several of the major drivers that pushed up inflation over the past year and a half should wane. He added that, in that scenario, disinflationary forces observed recently are likely to reassert themselves.
"I think that some of the big drivers that pushed up inflation" over the last year and half or so "will not be at play as much, and then some of the disinflationary forces that we’ve been seeing" should reassert themselves, Williams said.
Williams said he is closely watching core inflation readings over the next several months to determine whether the underlying run rate of inflation is moving toward 2% on a sustained disinflationary path consistent with achieving the Fed's objective by 2028. He said his personal forecast is for inflation to decline in the second half of this year and to fall further next year.
He reiterated that the current stance of monetary policy is "well positioned" to bring inflation back to target. At the same time, he was explicit that if the economy does not appear on a trajectory that will reduce inflation to 2%, it would be appropriate for the Fed to act to restore that trajectory.
Inflation remains well above the Fed's 2% target and has not been at or below that level for more than five years. At last week's policy-setting meeting, the Federal Open Market Committee left the federal funds target range unchanged at 3.50% to 3.75%, a decision Williams said he strongly supported.
Market participants had entered the meeting speculating about whether the Fed might resume hiking, given how far inflation still is from target and how long it has remained elevated. The Fed's preferred inflation gauge rose 3.7% in June on a year-over-year basis, keeping inflation noticeably above target.
Williams noted that upward pressure on prices is still present from supply shocks tied to events such as renewed conflict in the Middle East and tariff measures associated with President Donald Trump, in addition to demand-side pressures like strong business investment linked to artificial intelligence. He said these forces continue to complicate the outlook.
Three Fed officials dissented at the recent meeting, and in statements released on Friday they argued the central bank needs to increase the cost of short-term borrowing to lower inflation. "Inflation has remained stubbornly above 2% for more than five years, and I am not confident it will return to our objective on its own," Cleveland Fed President Beth Hammack said.
Long-term bond yields have been rising as investors weigh the prospect that inflation may remain elevated. Futures markets have priced in a meaningful probability of one or more rate increases by year-end.
Williams acknowledged substantial uncertainty around the outlook and singled out the renewed conflict in the Middle East as a key variable affecting how quickly energy-based inflationary pressures might fade. He said that when the conflict is resolved and shipping patterns normalize, any improvement in energy-related inflation could come quickly.
"I don’t anticipate, at least based on what’s happening so far in my base case, that we’re going to see ... continued inflationary push in the second half of the year or the next year from the conflict in the Middle East, but that’s something that obviously could change depending on circumstances," Williams said.
On the question of whether the Fed would feel compelled to set policy based on prevailing market levels, Williams answered in the negative while noting the central bank closely monitors financial conditions. "We always have to come do our own analysis, do our hard work, assess all of the ... factors influencing the economy, the outlook," he said.
Williams' remarks arrive amid a shifting Fed communications environment under new Chairman Kevin Warsh, who has steered policy communications away from providing explicit forward guidance about the policy outlook. That change has coincided with greater focus from investors on real-time data and financial market signals.
Williams also addressed the implications of rapid technological change, particularly in artificial intelligence, for asset prices and corporate behavior. He described the volatility in equity prices tied to AI developments as unsurprising in a highly innovative, fast-changing sector.
"Asset price volatility just comes with a highly innovative ... fast-changing world there, and we’ve seen that in the past," Williams said.
On the subject of corporate borrowing related to building out new businesses, he suggested current leverage patterns differ from those that contributed to past financial crises. "Most of these businesses have very high earnings, so I’m not as worried about the financial stability from the leverage right now," he said.
Williams' comments underscore the Federal Reserve's dual task this year: monitoring whether transitory or persistent forces are driving inflation, while remaining ready to tighten policy further if data indicate inflation will not return to target without additional action. His focus on core inflation readings in coming months signals the Fed's attention to the underlying pace of price gains as it assesses the need for further rate adjustments.
Summary
New York Fed President John Williams said he is optimistic inflation will ease if energy and tariff pressures have peaked and the economy holds up, but he cautioned that the Fed will raise rates if core inflation does not move toward 2%. He backed the recent decision to keep the federal funds rate at 3.50%-3.75% and highlighted uncertainty related to the Middle East and other supply shocks while noting the potential for swift improvement once shipping normalizes. Williams also described AI-driven market volatility as expected in a fast-changing sector and downplayed concerns about corporate leverage driving immediate financial instability.
Key points
- Williams expects disinflation to resume if key drivers - notably energy prices and tariffs - have peaked, and forecasts inflation to fall in H2 and more in the following year.
- The Fed's current policy stance is viewed by Williams as well positioned, but he made clear additional rate hikes would be appropriate if inflation is not on a path back to 2%.
- Uncertainty from the Middle East, tariff-related supply shocks, and strong business investment in AI remain important upside risks to inflation, affecting energy, trade-exposed sectors, and markets sensitive to interest rates.
Risks and uncertainties
- Renewed conflict in the Middle East could sustain or amplify energy price pressures until shipping and supply conditions normalize - a risk to energy and transportation sectors as well as to inflation readings.
- Trade tariffs and other supply-side shocks tied to trade policy could continue to push prices up, maintaining upward pressure on the Fed's inflation measure and affecting import-reliant industries.
- Elevated demand from sizable business investment in AI may add to inflationary forces, influencing capital goods sectors and potentially prompting tighter monetary policy if core inflation does not decline.