Market Analysis

Goldman Sachs: Fed Likely to Signal September Rate Cut

Amos Simanungkalit · 29 Jul 20244.5K Views

Recent comments from Federal Reserve officials indicate they are likely to maintain their current stance at the upcoming meeting. However, Goldman Sachs economists note that the likelihood of an initial interest rate cut has increased.

The key factor driving the FOMC closer to a rate cut is the favorable inflation data from May and June. After higher inflation figures in Q1—primarily due to residual seasonality and typical month-to-month fluctuations—Q2 saw significant improvement in inflation news.

Goldman Sachs economists predict the July inflation data will also be positive, as the catch-up inflation is subsiding. The January OER spike should see a reversal due to a six-month rotation in the sample of rental units, and residual seasonality in PCE inflation numbers is expected to turn negative again.

Another factor influencing the Fed's stance is the rise in the unemployment rate, which has increased by 0.1 percentage points for the past three months, reaching 4.1%. This represents a 0.7 percentage point increase from its lowest point, or nearly 0.5 percentage points on a three-month average basis.

"The labor market is currently in a good place,” Goldman economists noted. “It is roughly as tight as it was before the pandemic, a period that achieved a favorable balance between full employment and near-target inflation.”

However, there is growing slack in the labor market, and job growth is declining.

Chair Powell has repeatedly mentioned in the past month that further softening in the labor market would be undesirable. Despite this, economists expect the labor market to stabilize naturally, given the solid final demand growth indicated by the Q2 GDP report, which should support labor demand growth.

Nonetheless, cutting rates "sooner rather than later could help ensure that outcome," Goldman’s team added.

"We anticipate that recent data trends will lead the FOMC to revise its statement at next week’s meeting, hinting that a cut at the following meeting in September is more likely."

The Wall Street bank believes that a favorable July CPI report could confirm a September cut. Fed leadership appears close to being convinced, and waiting for the final August data might make the decision too dependent on one last CPI report.

Beyond September, the June projections suggest most FOMC participants expect the cuts to occur once per quarter as inflation continues to return to the 2% target, aligning with Goldman Sachs' baseline forecast.

In the near term, economists said the main risk is that the FOMC might cut rates more quickly, possibly at consecutive meetings, if labor market data weaken more than expected and the focus shifts from normalization to actively countering an economic slowdown.