Core Inflation Data Could Prompt Dramatic Action at the Fed

June’s U.S. CPI (Consumer Price Index) inflation data likely set alarms blaring in the minds of Federal Reserve officials. Core inflation now appears broadly entrenched across goods and services, which should solidify Fed officials’ confidence that restrictive policy is appropriate. We now expect the Fed to announce, at minimum, another 75-basis-point (bp) hike in the policy rate at both the July and September meetings, with growing risks of a 100-bp hike.

At the same time, we believe June’s inflation reading raises the odds of recession, which we now estimate is more likely than not in the next 12 months. Indeed, it is increasingly likely that the Fed will need to engineer an outright contraction in real activity to moderate inflation back to target over the next few years. If inflation turns out to be more persistent in the face of slower activity, a more severe contraction may be needed.