Nomura: The Fed May Indefinite Hold Back, Inflation and the Risk of a Hawkish Shift Rise

Nomura Securities significantly revised its expectations for Federal Reserve monetary policy on Wednesday, withdrawing its previous forecast for 25 basis point rate cuts in September and December of this year. Instead, it now expects the federal funds rate to remain indefinitely within the current range of 3.50% to 3.75%, and warns that if inflation persists at high levels, the risk of rate hikes will gradually accumulate.

This shift in stance marks a significant divergence in the预判 of the Federal Reserve's policy path by major Wall Street institutions and reflects profound changes in the inflationary situation and political environment over the past few months.

There are three overlapping drivers of inflation that prompted Nomura to change its position.

The first is the rise in tech product prices due to semiconductor shortages. The demand for AI-related investments continues to soar, and the global chip production capacity has reached a bottleneck, starting to be transmitted to consumer prices. Inflation of information technology goods has clearly increased at the beginning of the year, with PPI data and corporate surveys both showing that cost pressures continue to accumulate.

The second is the spillover impact of the Iranian war. The energy price shock has spread along the supply chain to petrochemicals, plastics, and freight rates, and Nomura expects this to further drive up core commodity prices in the coming months.

The third is the stagnation of the wage disinflation process. The trend of cooling wages in recent years has flattened, and with unemployment rates remaining stable, there is very little room for wages to soften further.

Taking into account these factors, Nomura expects the headline PCE inflation rate to rise to 3.6% for the full year of 2026, and the core PCE inflation rate to reach 3.2%, both marking the highest annual readings since 2022.

The policy balance within the Federal Reserve is also quietly shifting. At the April FOMC meeting, three voting members objected to the forward guidance; the proportion of officials supporting a shift away from easing bias increased from "several" in January to "many" in March. The April minutes further reveal that "most" members believe that if inflation persists above the 2% target, a modest tightening of policy will become necessary.

Federal Reserve Chairman Powell admitted at the April press conference that there are "strong reasons" to adjust the forward guidance, but he deemed the timing in April as premature. San Francisco Federal Reserve Bank President Daly and Kansas City Federal Reserve Bank President Paulson have implicitly endorsed the market's pricing expectations for "no more rate cuts."

Nomura stated that the probability of a rate hike in the near term remains low. Overall inflation expectations are still under control, and the current inflationary pressures mainly stem from supply-side shocks, which will support officials in interpreting them as "transitory" factors and maintain confidence in the medium-term return to a 2% target. In addition, the agenda-driven role of Wash means that under reasonable explanations for the "transitory" nature of inflationary pressures, discussions on rate hikes will be postponed.

However, the bank also warns that the Federal Reserve's delayed reaction to inflationary signs poses a risk of being "behind the curve." If the delay lasts too long, it will be forced to rapidly raise rates to rebuild policy credibility. "The current risk balance tilts towards rate cuts, but may gradually drift towards rate hikes as time goes on," the report states.