Citi Research has introduced a proprietary indicator dubbed the "Warsh shadow rate" after former Federal Reserve governor Kevin Warsh highlighted a set of economic metrics in his Jackson Hole speech. The metric combines core inflation, money‑supply growth, initial jobless claims, financial‑condition gauges and equity market signals, while down‑weighting inflation expectations, wage data and headline non‑farm payrolls.
Citi economists say the shadow rate is near historical peaks that have preceded past Fed tightening cycles and tends to lead 2‑year Treasury yields. They note that a core CPI rise of 0.3% or more would increase the likelihood of a September rate hike, a 0.1% increase could push the Fed to pause, and a 0.2% reading offers no clear direction.
Higher Treasury yields have already reflected a more hawkish stance, with the 10‑year yield under pressure and oil price gains adding strain to the long end of the curve. Citi warns that keeping the 30‑year Treasury yield below 5.3% would be difficult if the Fed initiates hikes in September.
Historically, Citi's analysis shows US equities tend to underperform for roughly 50 trading sessions after the Fed’s first rate increase before rebounding, while bond returns remain subdued for a considerably longer period.
The Warsh shadow rate thus provides market participants with a forward‑looking gauge of Fed policy risk, anchored in the indicators Warsh emphasized and calibrated to past tightening episodes.
