Fed Turns Hawkish, Wall Street Surrenders En Masse—Citi Remains the “Last Holdout,” Insisting on Rate Cuts Resuming in October
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Fed Turns Hawkish, Wall Street Surrenders En Masse—Citi Remains the “Last Holdout,” Insisting on Rate Cuts Resuming in October
Citigroup believes the Federal Reserve’s next move will be a rate cut rather than a hike, with the base-case scenario calling for a 25-basis-point cut in October, followed by additional 25-basis-point cuts in December and January 2027.
Navigating Web3 tides with focused insightsAs the Federal Reserve unexpectedly pivoted sharply hawkish and major Wall Street institutions successively withdrew their dovish expectations, Citigroup maintained its contrarian view, asserting that rate cuts remain highly probable this year and locking in a base-case scenario of easing resuming in October.
At the June FOMC meeting, nine of the 18 Fed officials projected rate hikes this year in their “dot plot”—far exceeding market and analyst expectations. Chair Worshe formally removed the phrase “dovish bias” from his post-meeting statement and declined to offer any forward guidance. In response, the swaps market rapidly advanced its first-hike expectation from March 2027 to October this year; markets now price in roughly 37 basis points of hikes for the remainder of 2026, and the two-year Treasury yield posted its largest single-day gain since March.
Faced with this hawkish shock, Wall Street firms swiftly reversed course. Deutsche Bank officially withdrew its dovish forecast in its latest report, projecting two 25-basis-point hikes—in September and December—totaling 50 bps and lifting the policy rate to 4.1%, while warning that action could begin as early as July. Rob Kaplan, Goldman Sachs Vice Chairman and former Dallas Fed President, warned that if inflation data remains stubbornly elevated, the Fed could resume hiking as early as this fall—and likely do so in a series of two to three consecutive moves.
By contrast, Citigroup’s Andrew Hollenhorst team upheld a base-case forecast diametrically opposed to consensus: the next move will be a cut—not a hike—with a 25-bps cut in October as the base case, followed by further 25-bps cuts in December and January 2027. Citigroup’s core argument rests on three pillars: (1) a sharp decline in oil prices is removing the primary upside risk to inflation; (2) rising initial jobless claims are replicating seasonal softening patterns observed in 2024 and 2025; and (3) core PCE—unlike other inflation measures—is increasingly emerging as an “outlier,” with its strength reflecting equity price gains rather than broad-based consumer price pressures.
Citigroup’s Argument #1: Falling Oil Prices Are Removing Upside Inflation Risks
Citigroup’s first pillar for maintaining its dovish call stems from the rapid drop in oil prices. The bank argues that lower oil prices will drive down gasoline prices, thereby eliminating the prior main source of upside inflation pressure. Market-based inflation expectations—which track oil prices closely—have already retreated, with the 10-year breakeven inflation rate falling to pre-conflict lows.
Citigroup notes that had Fed officials had more time to absorb this latest energy-price shift, the June FOMC meeting would likely have been markedly less hawkish. As the disinflationary impact of lower oil prices gradually filters into incoming data, inflation readings over the coming months are expected to moderate—potentially prompting more Fed officials to adopt a more dovish stance ahead of the September meeting and paving the way for rate cuts before year-end.
Citigroup’s Argument #2: Labor Market Softening Signals Replicate Past Seasonal Patterns
Citigroup’s second core argument centers on early signs of labor market softening.
Both initial jobless claims and continuing claims have risen for several consecutive weeks. Citigroup observes that this pattern emerged in both 2024 and 2025—and was subsequently followed by a string of weaker-than-expected monthly employment reports and rising unemployment rates. A rising unemployment rate is precisely the key catalyst Citigroup expects to trigger Fed rate cuts this year. The bank forecasts initial claims (for the week ending June 20) to hold near 224,000, continuing claims to edge up slightly to 1.813 million, and the four-week moving average to keep trending higher. While current absolute levels remain modest, a sustained upward trend would align with Citigroup’s view of gradual labor market weakening.
For the broader economy, Citigroup’s Q2 GDP growth forecast stands at 2.5%. On consumption, May’s control-group retail sales rose 0.7% month-on-month—still resilient—but real disposable income growth has slowed nearly to zero, and the savings rate remains low, suggesting mounting downside risks to spending momentum.
Citigroup’s Argument #3: Core PCE Is an “Outlier”; The Inflation Picture Is Not Uniform
Citigroup’s third pillar for holding firm against consensus lies in its skepticism toward core PCE itself.
May’s core CPI rose only 0.21% month-on-month—a modest print—yet Citigroup expects the upcoming May core PCE reading to hit 0.37%, widening a significant divergence between the two measures. Citigroup attributes core PCE’s relative strength to idiosyncratic factors: it is heavily influenced by AI-related pricing and directly boosted by equity price gains. May’s PPI data showed portfolio management fees surging 4.8% month-on-month—primarily reflecting the rebound in stock prices from early-April lows to early-May highs—not genuine price pressures emanating from the consumer sector.
Cross-sectionally, alternative PCE measures—including the Dallas Fed trimmed-mean PCE, the San Francisco Fed cyclical PCE, the Cleveland Fed median PCE, and core CPI—show markedly softer inflation trends than core PCE. Citigroup concludes that core PCE is increasingly becoming the “outlier” among inflation gauges—not a reliable signal of broad-based consumer price pressures.
Citigroup expects AI-related pricing pressures to plateau in H2, narrowing the gap between core PCE and core CPI and steering overall inflation toward a trajectory supportive of policy easing. Under its forecast path, core PCE’s year-on-year rate is projected to gradually decline from ~3.3% currently to 2.1–2.2% by mid-2027.
Wall Street “Surrenders”: Deutsche Bank Forecasts Two Hikes; Goldman Warns of Sequential Tightening
Yet in the face of Chair Worshe’s hawkish pivot, Wall Street institutions have largely capitulated. Deutsche Bank Chief U.S. Economist Matthew Luzzetti’s team stated explicitly in its report that its prior delay in upgrading forecasts stemmed from two key uncertainties: high economic uncertainty arising from Iran-related developments, and unclear monetary policy reaction functions under new Fed Chair Worshe. The June FOMC outcome resolved both concerns decisively.
Deutsche Bank substantially raised its inflation forecasts, lifting its core PCE projections for end-2026 and 2027 to 3.2% and 2.5%, respectively. Its updated base case now calls for two 25-bps hikes—in September and December—totaling 50 bps and pushing the policy rate to 4.1%; no further action through all of 2027, with easing beginning only in H1 2028. Deutsche Bank also flagged hawkish risks: if Chair Worshe has publicly committed to “repairing” price stability but the Committee fails to act promptly, his credibility would be undermined—implying a possible July hike. And to fully reverse the easing effects of last year’s consecutive cuts, total 2026 hikes could reach 75 bps.
Goldman Sachs Vice Chairman Rob Kaplan stated unequivocally that if inflation data shows no improvement through September, a fall hike would be “prudent.” He stressed that Fed policy adjustments rarely occur in isolation—rate changes typically unfold in series of two to three moves: “If action occurs in September, you should prepare for one or two additional hikes.” Kaplan’s warning—grounded in decades of monetary policy experience—has sounded a clear alarm for markets.
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