Key Takeaways
Goldman Sachs declared the July rate hike off the table after June inflation data showed broad-based cooling, but warned the bigger test for Fed Chair Kevin Walsh is whether he can manage market expectations through a policy pivot.
June's Consumer Price Index rose 3.5% from a year earlier, down from 4.2% in May and below the 3.8% consensus estimate, the Labor Department reported July 14. Core CPI, which excludes food and energy, decelerated to 2.6% from 2.9%, while Goldman's trimmed-mean PCE estimate — a measure the firm considers more indicative of underlying trends — stood at just 2.3%.
"The data has effectively eliminated any possibility of a rate hike at the July 28-29 FOMC meeting," Jan Hatzius, chief economist at Goldman Sachs, wrote in a July 19 note. "But the real challenge for Chair Walsh is that he will have no choice but to explain the committee's economic outlook and reaction function in far greater detail than he did in his first press conference or congressional testimony."
Goldman estimates June core PCE — the Fed's preferred gauge — rose 0.18% month over month, bringing the annual rate to 3.3%. That remains well above the Fed's 2% target but marks a meaningful deceleration from the 3.4% reading in May, which was the highest since October 2023. The improvement was driven largely by a 5.7% monthly drop in energy prices as a brief U.S.-Iran ceasefire pushed WTI crude from a June 3 peak of $99.76 a barrel to $69.73 by early July.
The Communication Challenge Ahead
The Federal Reserve has held its benchmark rate at 3.50%-3.75% since Dec. 10, 2025 — a span of more than seven months, the longest pause since the tightening cycle began. Before the June CPI print, several policymakers had warned of potential rate increases if energy-driven price pressures persisted. Now, with inflation cooling, the debate shifts to how Walsh signals the path forward.
Goldman's rate strategists believe markets have overpriced the risk of tightening. Yet as long as Middle East escalation risk dominates sentiment, that pricing偏差 is unlikely to correct, the report said. The firm's base case — assigned a 35% probability — sees two 25-basis-point cuts in June and December 2027. A hike scenario carries just 25% probability, with high-inflation and recession scenarios splitting the remainder.
The bond market remains skeptical. The 10-year Treasury yield stood at 4.58% as of July 14, near the upper end of its 12-month range and up 10 basis points over the past month even as headline CPI cooled. That divergence — yields rising alongside disinflation — suggests investors are pricing tail risk from a potential Strait of Hormuz disruption that could reverse June's energy-driven gains.
Labor Market Cools, Consumer Strain Builds
June's nonfarm payrolls report came in weaker than expected, prompting Goldman to lower its estimate of trend employment growth to 73,000 a month from 130,000. The unemployment rate fell to 4.2%, but Goldman attributed the decline largely to an unusually sharp drop in labor force participation that it expects to reverse in coming months.
The firm's wage tracker has slowed to 3.4%, below the 4% level Goldman estimates is consistent with 2% inflation assuming trend productivity growth of 2%. Consumer sentiment remains near-recessionary: the University of Michigan index printed 44.8 in May, down from 61.7 a year earlier.
Goldman estimates the U.S. economy grew at roughly a 2.25% annualized pace in the first half, with tax cuts offsetting the drag from elevated oil prices. But the second-half outlook is softer. Slowing real disposable cash flow growth is expected to weigh on consumer spending, and any pullback in AI-related investment would reduce the roughly 0.5 percentage point contribution from equity wealth effects.
For Walsh, the immediate task is clear: explain how the Fed will navigate between still-elevated core inflation and a softening labor market without triggering a disorderly repricing of financial conditions. The July 28-29 meeting will be his first real test.
This article is for informational purposes only and does not constitute investment advice.
