Pressure builds on the Fed
On the face of it, you might think that the Fed will be in an easier position tomorrow than it was at its last decision in May. There still remains a lot of pressure from the White House on the Fed to cut rates. However, baring catastrophe in today’s session, the Chair will address markets in a context where they are ‘rebuying’ rather ‘selling’ America. 10-year yields have continued to moderate from the date of the liberation day tariff pause and US equity indices are considerably higher than even pre-April 2nd levels. However, it seems that any belief the Fed is in for an easier ride this time around may be an oversight.
Scratch beneath the surface of the rebuy America trade and we see significant stresses within the market. Yes, financial markets are largely discounting the risk of a meaningful recession in the years ahead but there remains a material risk of stagflation. Those stagflationary risks have been added to with the rising tensions in the Middle East that we have written on recently. Shocks to the oil price are yet another key example of a simultaneous risk to growth and inflation that the Fed will be questioned on. That questioning will focus on the dichotomy of a risk to the price level and to liquidity conditions especially in the face of Trump’s tax bill.
Moving into tomorrow’s decision, markets are still looking for 50-basis points worth of easing left for 2025. The median forecast says that will be delivered with 25-basis point cuts in September and December. However, the inflationary risk of tariffs incurred in April and May as well as those months to follow have not yet been reflected meaningfully in inflation statistics to date. Therefore, there is the likelihood of an inflation shock in the months ahead that may distort that pricing. Services inflation and rents continue to fall emphasising the challenge the Fed finds itself in.
Discussion and Analysis by Charles Porter
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