Goldman Sachs: US inflation is still declining, the election is not crucial to the Federal Reserve, and the possibility of a rate hike is very low

The resurgence of US inflation has dealt a heavy blow to the recent rate cut expectations of the Federal Reserve. As of the time of writing, the CME FedWatch Tool shows that the market may only see the first rate cut by the Federal Reserve within the year in September.

Jan Hatzius, Chief Economist at Goldman Sachs, believes that the recent high inflation data is just a special phenomenon. The factors currently driving the downward trend in inflation remain stable. It is expected that the upcoming inflation data will be more moderate, thus maintaining the forecast for rate cuts in July and November.

The US presidential election (scheduled for November 5th this year) may have a certain impact on Federal Reserve policy. However, Hatzius pointed out that the Fed's policy path mainly depends on economic indicators, especially whether the inflation rate continues to decline to the target level of 2%. Hatzius and his team stated in the May FOMC preview report released last weekend:

We do not believe that the upcoming election is crucial for the timing of the first rate cut. There is hardly any evidence since the 1980s to suggest that the FOMC implements different monetary policies before presidential elections.

In addition, in the current situation, if Fed officials choose to cut rates on the eve of the election, or maintain a higher federal funds rate, they may face criticism from politicians.

Goldman Sachs also stated in the report that the likelihood of the Fed raising rates is quite low. The reason is that there are currently no signs of a resurgence in the labor market and inflation, and the fund rate is already quite high.

The report points out that only in the event of a severe shock to global supply, or if fiscal policy leads to a surge in inflation, would a rate hike become a reality.

Even in this scenario, the FOMC may be more inclined to keep the fund rate stable at a high level, unless these shocks seem likely to trigger more widespread and persistent inflation issues.

Goldman Sachs believes that if inflation continues to run high, the Fed may limit or postpone rate cuts, and may even postpone them until after next year.

Housing, healthcare, and car prices may continue to slow down, driving inflation lower

Goldman Sachs believes that the recent high inflation data is just a special phenomenon, and the factors currently driving the downward trend in inflation remain stable.

Firstly, the rate of increase in housing costs may be slowing down, which could weaken the overall impact on inflation. Specifically, the official housing inflation index is gradually decreasing, consistent with the downward trend in leading market indicators.

Secondly, prices of healthcare and car insurance, which are regulated, may not immediately reflect changes in market supply and demand. Once these lagging price increases are incorporated into the price system, unless there is new cost pressure, these regulated prices may not continue to grow at the same rate. This may also indicate that although prices in these categories have risen in the recent reporting period, they may not exert sustained upward pressure on future overall inflation rates Due to intensifying competition, the supply of automobiles and other goods may end the shortage status, which will lead to a decrease in corporate profit margins, thereby helping to reduce inflationary pressures.

Additionally, inflation expectations in the market and households may remain stable, which helps prevent an increase in inflation expectations, thus supporting the trend of deflation. Global economic growth slowdown or other international factors may exert downward pressure on inflation in the United States.

If inflation remains high, don't expect a rate cut within the year?

Goldman Sachs pointed out that its base forecast is for the inflation rate to fall to 2%, so the Federal Reserve will continue to cut rates to normalize the federal funds rate. The key issue is the definition of "normal" - how will the FOMC rethink the neutral interest rate.

The report mentioned that the interest rate levels recommended by the monetary policy rules presented by the FOMC at the meeting are usually lower than the current interest rate levels of the FOMC. This indicates that the FOMC may adjust its estimate of the neutral interest rate based on economic conditions and inflation trends.

Goldman Sachs continues to believe that the FOMC would not want rates to stay indefinitely at 5.25-5.5%, although it is still quite uncertain where it may decide to stop. Currently, Goldman Sachs expects the terminal rate to be 3.25-3.5%.

Conversely, if inflation remains high, either because it is stickier than expected or because new shocks occur, rate cuts may be more limited or delayed, even postponed until after next year.

For example, if a large tariff policy significantly boosts the CPI inflation rate, the Federal Reserve may not cut rates even into next year