Fed: Extended pause before cautious easing – UOB

UOB’s Senior Economist Alvin Liew revises its Federal Reserve (Fed) outlook following hotter United States (US) inflation data. Liew now expects the Fed to keep policy rates unchanged through 2026, before delivering two rate cuts in 2027, and sees the federal funds target rate ending 2026 at 3.75% and 2027 at 3.25%.

Policy on hold as inflation stays high

"We now expect an extended period of pause to cover the remainder of 2026 before the Fed resumes easing in 2027 (with two rate cuts in late-2Q27 and late-4Q27). This represents a materially long pause even as we maintain our view of an easing stance for Fed policy, reflecting our expectation that inflation pressures will only begin to taper meaningfully in 1H27."

"Under this revised path, the terminal federal funds target rate is now expected to be 3.75% by end 2026, and then lower to 3.25% by end 2027, which will also be the terminal Fed rate."

"While we are still cognizant of the softer domestic demand conditions that are being weighed down by rising energy costs (even as recent hiring data have been above expectations in Mar and Apr), our US CPI forecasts have been revised higher in 2026 again with risks still biased towards the upside and clearly further above the 2% target."

"This reinforces expectations that the Federal Reserve is likely to remain even more cautious with the balance of risk tilting more towards prices, as persistent upstream inflation pressures could complicate the policy outlook and further delay any potential easing cycle."

"We will need to see if Warsh is able to garner support or reach consensus among the voters, for the direction of Fed monetary policy that he intends to pursue."