Citi predicts a 'dovish surprise' is brewing at the Fed: core inflation nearing 2% is key

BlockBeats news, October 9 - Citi believes that if the short-term annualized growth rate of core PCE continues to approach 2%, the tightening path after the September rate hike may change. The key lies in whether the subsequent rate hikes originally expected by the Federal Reserve will still occur, rather than an immediate shift to rate cuts. Citi economist Andrew Hollenhorst said in a report that the U.S. economy is not overheating, "there has been no strong reason for rate hikes. The September meeting minutes show that at least some officials also did not judge the economy as clearly overheating, but instead agreed to a rate hike based on risk management considerations amid upside inflation risks, which means that if underlying inflation continues to cool, the precautionary rationale for the September rate hike may quickly weaken. Most officials currently still expect one more rate hike may be possible before the end of the year, but the minutes do not show the urgency of consecutive rate hikes in October."

Citi focuses on the month-over-month core PCE rather than the still-high year-over-year figure: core PCE rose 0.2% month-over-month in August, July was revised to 0.1%, and August rose 3.0% year-over-year. If annualized at about 2% for several consecutive months, it should be regarded as inflation falling back at the "sufficient pace" required by the Federal Reserve. Citi is also cautious about the transmission of energy shocks to core inflation, believing that companies have not yet broadly passed energy costs through to core prices. The baseline scenario expects core inflation to remain low over the next four months, and notes that there are downside risks to September core inflation. A so-called "dovish surprise" is more likely to mean the rate hike cycle ends earlier than the dot plot and market expectations, rather than a rapid move into rate cuts. Federal Reserve Chairman Warsh has not yet clarified the standard for "sufficient pace," and several consecutive months of core PCE at an annualized rate of about 2% can be regarded as a reasonable reference.