In the aftermath of the Federal Reserve's surprisingly hawkish June FOMC meeting, where 9 of 18 officials pointed to a rate hike this year and Chair Warsh dropped the 'accommodative bias' language, most Wall Street institutions have abandoned their dovish expectations. However, Citigroup remains the last holdout, maintaining that the Fed's next move is a rate cut rather than a hike. The Citi team led by Andrew Hollenhorst holds a baseline forecast of a 25bp cut in October, followed by additional 25bp cuts in December 2026 and January 2027.
Swap markets have rapidly pulled forward the first rate hike expectation from March 2027 to October 2026, pricing in about 37bp of tightening for the remainder of this year. The 2-year Treasury yield posted its biggest single-day gain since March after the meeting.
Citi's Logic #1: Falling Oil Prices Remove Upside Inflation Risks
Citi's first core argument for sticking with rate cuts stems from the sharp decline in oil prices. The bank argues that lower oil prices will drag down gasoline costs, eliminating a major source of upside inflation pressure. Market-based inflation expectations have already fallen in tandem with oil, with the 10-year breakeven rate dropping to pre-conflict lows. Citi believes that if Fed officials had more time to digest this energy price development, the hawkish tone of the June FOMC meeting would have been significantly muted. As the effects of lower oil prices filter through data in coming months, inflation data is expected to moderate, pushing more officials toward a dovish stance before September and creating conditions for a rate cut by year-end.
Citi's Logic #2: Labor Market Weakness Mirrors Past Seasonal Patterns
Citi's second core argument focuses on early signs of softening in the labor market. Initial jobless claims and continuing claims have both been trending higher for several weeks. Citi notes that this pattern appeared in both 2024 and 2025, and each time it was followed by a series of weak monthly employment reports and rising unemployment – the latter being a key driver of Citi's rate-cut call. The bank estimates that initial claims for the week ended June 20 will stay near 224,000, while continuing claims edge up to 1.813 million, with the four-week moving average continuing to rise. While absolute levels remain low, a sustained upward trend would align with a gradually softening labor market. On the broader economy, Citi's Q2 GDP tracking estimate is 2.5%. May retail sales control group rose 0.7% month-over-month, showing resilience, but real disposable income growth has slowed to near zero and the saving rate remains low, suggesting downside risk to spending growth is rising.
Citi's Logic #3: Core PCE Is an 'Outlier' – Inflation Picture Not Uniform
Citi's third pillar challenges the core PCE data itself. May core CPI rose only 0.21%, a mild reading, but Citi expects the upcoming May core PCE to jump 0.37%, 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 – the May PPI showed a 4.8% surge in portfolio management fees, reflecting the recovery in stock prices from early-April lows to early-May highs, not genuine consumer price pressure. Comparing across metrics, the Dallas Fed trimmed mean PCE, San Francisco Fed cyclical PCE, Cleveland Fed median PCE, and core CPI all show a more moderate inflation trajectory than core PCE. Citi expects that as AI-related prices flatten in the second half of the year, the gap between core PCE and core CPI will narrow, making the overall inflation picture more supportive of policy easing. Under its forecast path, year-over-year core PCE is expected to gradually decline from the current 3.3% to around 2.1%-2.2% by mid-2027.
Wall Street Surrenders: Deutsche Bank Pivots to Two Hikes, Goldman Warns of Sequential Tightening
Facing Chair Warsh's hawkish shock, other Wall Street firms have shifted. Deutsche Bank's Chief US Economist Matthew Luzzetti and team stated that their previous reluctance to upgrade forecasts was due to two major uncertainties: the highly uncertain economic outlook from the Iran situation and the still-unclear reaction function of new Fed Chair Warsh. The June FOMC meeting dispelled both concerns. DB sharply raised its inflation forecasts, lifting core PCE estimates for end-2026 and 2027 to 3.2% and 2.5%, respectively. Its baseline now calls for the Fed to hike 25bp each in September and December, bringing rates to 4.1%, then hold steady through 2027 and begin cuts in early 2028. DB also warns of upside hawkish risk: if Warsh has publicly committed to 'repairing' price stability and the committee fails to act, his credibility would be tested – meaning a hike could come as early as July, and to fully reverse last year's consecutive easing, the total tightening could reach 75bp for the year.
Goldman Sachs Vice Chairman Rob Kaplan warned that if inflation does not cool between now and September, a fall rate hike would be 'wise.' He stressed that Fed policy changes rarely come as isolated actions; rate moves typically unfold in sequences of two to three. 'If you act in September, you need to be prepared that there could be one or two more hikes,' he said, citing historical patterns and drawing attention to the risks ahead.