Brace yourself for a wave of rate cuts from the Federal Reserve that will begin in a few months and extend through next summer, according to analysts at Citi Research.
In a note released Friday, the bank cited new signs of economic slowdown to justify its position that the Fed will cut rates by 25 basis points eight times, starting in September and ending in July 2025.
This will reduce the benchmark rate by 200 basis points, from 5.25%-5.5% currently to 3.25%-3.5%, where it will remain for the remainder of 2025, the note said.
The economy has slowed from its “heady” pace in 2023, with inflation resuming its slowdown after some unexpected stiffness, Citi analysts led by chief U.S. economist Andrew Hollenhorst said.
But the Institute for Supply Management’s service sector indicator, which turned sharply into negative territory, and the monthly jobs report, which showed unemployment rising to 4.1%, raised the risk of a sharper weakening in economic activity and a faster pace of rate cuts, they added.
The data, along with dovish comments from Fed Chairman Jerome Powell on Tuesday, suggest the first rate cut will most likely come in September.
“In our base case, a continued slowdown in activity will trigger rate cuts at each of the next seven Fed meetings,” Citi predicts.
The note also highlighted other signs of weakness in the jobs report. While the 206,000 increase in service-sector jobs appears solid, previous months have been revised lower. June saw a 49,000 decline in temporary services jobs, which Citi called “the type of decline typically seen in a recession, when employers begin to reduce their workforces to include workers who are less attached to the economy.”
The wage data is also likely skewed upward, making the unemployment rate, which is derived from a separate survey, the more important measure, he said. And on that front, Citi pointed to the “Sahm regime” recession indicator and said it could be triggered in August if unemployment continues to rise at its current rate.
Hollenhorst has been relatively contrarian this year, maintaining a darker view of the economy, even as the Wall Street consensus has trended toward a soft landing.
In May, he reiterated his warning that the United States is on the way to a hard landing and that Fed rate cuts would not be enough to prevent it. That forecast followed a similar prediction in February, even amid explosive jobs reports.
In an interview with Bloomberg TV WednesdayA deep recession could probably generate enough political consensus for more government spending to stimulate the economy, helping to overcome concerns about the massive deficit, Hollenhorst said. But a milder recession might not produce such consensus, he added.
He also noted that just as the Fed’s rate hikes have slowed the economy less than expected, the rate cuts haven’t been as stimulative. Moreover, yields on 10-year bonds, which serve as a benchmark for a broad range of borrowing costs, are already lower than the 2-year, leaving less room for further cuts, especially as rising deficits and inflation put upward pressure.
“Most economic activity will be more sensitive to the 5-year or 10-year yield. It’s not really a question of the overnight policy rate,” Hollenhorst said. “So there is a real question of how much of the stimulative effect of lower policy rates can be transmitted.”
