After the Federal Reserve’s June FOMC meeting surprised with a sharp hawkish turn and major Wall Street institutions abandoned their dovish expectations, Citigroup remains a stubborn contrarian, insisting that a rate cut this year is still highly likely. Andrew Hollenhorst’s team at Citi maintains a baseline prediction diametrically opposite to market consensus: the Fed’s next move will be a cut, not a hike, with a 25-basis-point reduction in October, followed by two additional 25bp cuts in December 2026 and January 2027.
At the June FOMC meeting, 9 of the 18 officials’ dot plots pointed to a rate hike this year, far exceeding market and analyst expectations. Chair Warsh formally removed the “easing bias” language from the post-meeting statement and refused to provide any forward guidance. Swaps markets swiftly pulled the first expected hike forward from March 2027 to October this year, pricing in about 37bp of tightening for the remainder of 2026. The 2-year Treasury yield posted its biggest one-day gain since March.
Declining Oil Prices Reduce Inflation Upside Risk
The first pillar of Citi’s dovish case is the rapid drop in oil prices. The bank argues that lower oil will drag gasoline prices down, removing a key upward driver of inflation. Market-based inflation expectations have already fallen in tandem with oil, with the 10-year breakeven rate declining to pre-conflict lows. Citi believes that if Fed officials had had more time to digest the latest energy price moves, the hawkishness of the FOMC meeting would have been significantly tempered. As the effects of cheaper oil show up in the data, inflation readings should moderate in coming months, pushing more officials toward a dovish stance by September and creating conditions for a rate cut before year-end.
Labor Market Shows Renewed Weakness Signals
Citi’s second core argument focuses on early softening signs in the labor market. Initial jobless claims and continuing claims have both been trending higher for several weeks. Citi notes that a similar pattern occurred in 2024 and 2025, each time followed by a series of weak monthly employment reports and rising unemployment—the latter being a key driver of Citi’s expected rate cut. The bank forecasts initial claims to stay near 224,000, continuing claims to edge up to 1.813 million, and the four-week moving average to continue rising. While absolute levels are not yet high, a persistent uptrend would be consistent with a gradually softening labor market. Citi also tracks Q2 GDP growth at 2.5%, and while May retail sales control group rose 0.7% month-on-month, real disposable income growth has slowed to near zero and the savings rate remains low, suggesting downside risks to spending are building.
Core PCE Viewed as an “Outlier”
The third pillar is Citi’s skepticism toward the core PCE data itself. May core CPI came in mild at 0.21% month-on-month, but Citi estimates May core PCE will print a strong 0.37%, creating a significant divergence. Citi argues that the strength in core PCE is idiosyncratic: it is heavily influenced by AI-related prices and directly boosted by rising stock prices. May PPI data showed a 4.8% surge in portfolio management fees, reflecting the equity rebound from early-April lows to early-May highs rather than genuine consumer price pressure. Comparing across measures, the Dallas Fed trimmed mean PCE, the San Francisco Fed cyclical PCE, the Cleveland Fed median PCE, and core CPI all show a more moderate inflation picture than core PCE. Citi expects the gap between core PCE and core CPI to narrow as AI-related prices flatten in the second half, pushing the overall inflation trajectory toward supporting policy easing. Under Citi’s forecast, year-over-year core PCE should decline from around 3.3% currently to 2.1%-2.2% by mid-2027.
Wall Street Institutions Turn Hawkish
Facing Chair Warsh’s hawkish shock, other Wall Street firms have reversed their stances. Deutsche Bank formally withdrew its easing call in a recent report, predicting the Fed will hike 25bp each in September and December, bringing rates to 4.1%, and warned that a move in July is possible. Goldman Sachs vice chairman and former Dallas Fed president Rob Kaplan cautioned that if inflation data remain stubborn, a fall rate hike would be “wise,” and emphasized that policy changes rarely come as isolated moves—a series of two to three hikes is more likely. These hawkish views stand in sharp contrast to Citi’s dovish forecast, and inflation and employment data in the months ahead will be the key to validating each side’s logic.