Inflation is More Important Than You Think..
In our preparatory material for the FOMC meeting (see here), we noted: “We expect the path of the FF rate to be little changed in the upcoming SEP (if anything, we expect the FOMC to take out one cut for risk management purposes).”
The results of the June FOMC meeting were, in large part, consistent with these expectations. Notably, the FRB-US model once again proved instrumental in guiding our forecast for the direction of revisions. It came as no surprise to observe an upward adjustment in the 2026 projection for core PCE inflation—this was, in fact, the most salient risk we had identified prior to the SEP release. The additional upward revision for 2027 was somewhat more unexpected, given the temporal distance, but it underscores a clear message: the Federal Open Market Committee (FOMC) remains concerned about the potential persistence of inflation and the possibility that it may not return to target levels as previously projected. The models won.
Consequently, despite an upward revision to the unemployment rate, the projected path for the federal funds rate reflects a marginally more hawkish stance. This adjustment effectively maintains real interest rates at nearly unchanged levels for both 2026 and 2027.
In sum, the outcome aligns with our expectations. As we discussed during the London meetings, we had already perceived that inflation was a more prominent concern for the FOMC than market participants generally believed. A legitimate question now arises: have we reached a local—or even global—peak in hawkish sentiment? While future data will ultimately provide the answer, our current assessment suggests that such a peak may indeed have been reached, unless we get large upward surprises on the inflation front.
Statement
We see nothing interesting in the new statement.
The dots
FRB-US strikes again.
Figure 1 compares the March SEP (solid blue line), the FRB-US model’s pre-FOMC run (dashed red line), and the new June SEP (blue dots). The direction of the revisions align with the model. It came as no surprise to observe an upward adjustment in the 2026 projection for core PCE inflation—this was, in fact, the most salient risk we had identified prior to the SEP release (green circle in Figure 1). The additional upward revision for 2027 was somewhat more unexpected, given the temporal distance, but it underscores a clear message: the Federal Open Market Committee (FOMC) remains concerned about the potential persistence of inflation and the possibility that it may not return to target levels as previously projected.
Overall, to us the message is clear: the FOMC needs time to decide which side of the mandate will dominate. For the time being, the FOMC is still concerned about inflation.
Figure 1. Comparison between the March SEP (blue solid line), pre-FOMC FRB-US model run (red dashed line), and the June SEP (blue dots).
Q&As
Question: Limited impact of tariffs so far? How does that impact your assessment?
Powell. “So we’ve had three months of favorable inflation reading […] and that’s, of course, highly welcome news. […] we’re beginning to see some effects and we do expect to see more of them over coming months. We do see price increases in some of the relevant categories like personal computers and audiovisual equipment, things like that are attributable to tariff increases. In addition, we look at surveys of businesses […] and you do see a range of things but many, many companies expect to put all or some the effect of tariffs […] to the consumer. […] the amount of the tariff effect, the size of the tariff effects, their duration, and the time it will take are all highly uncertain so that is why we think the appropriate thing to do is to hold where we are as we learn more, and we think our policy stance is in a good place.”
Comment: The Fed needs time to see the data, it cannot act before or make strong assumptions.
Question: Do you have cuts going forward because underlying inflation remains stable so that you can cut?
Powell. “If you look at the forecast, you will see that people generally expect inflation to move up and then to come back down. But we can’t just assume that, of course, we don’t know that. And, you know… our our job is to make sure that one time increase in inflation doesn’t turn into an inflation problem. And then again, that will depend on the size of the effects, how long it takes for them to come in and ultimately on keeping inflation expectations anchored.”
Comment: In a nutshell, this was our message during the London meetings. Right now, the Fed cannot assume that expectations (and/or pi*) will remain anchored, and ultimately this is their job. Not only but in some models, including FRB-US, expectations are indeed moving right now. And this is the disconnection we perceived between the markets and the models/FOMC.
Question: How many months will it take before you can cut rates?
Powell. “We know that the time will come. It could come quickly. It could not come quickly. As long as the economy is solid, though, as long as we’re seeing the kind of labor market that we have and reasonably decent growth, inflation moving down, we feel like the right thing to do is to be where we are, where our policy stance is, and just learn more. And in particular, we feel like we’re going to learn a great deal more over the summer on tariffs. We expected to show up by now and they haven’t. And we will see the extent to which they do over coming months. ”
Comment: As we say, the Fed needs to see “the white eyes of disinflation” -including expectations- before it can cut rates. The time will come, but we likely remain several months away from that.