A more hawkish-than-anticipated FOMC meeting fuelled market expectations of a Fed rate hike. But the inflation backdrop should improve markedly over the next 12 months, and the true strength of the labour market remains uncertain. Significantly, half the FOMC don’t think the Fed needs to hike, and we agree. A lengthy pause is our callThe Federal Reserve Is Not Like Other Central BanksWednesday’s Federal Reserve meeting saw a hawkish shift in the Federal Open Market Committee’s stance. Half the committee now expects to hike rates before the end of the year, versus none back in March. The signal was enough to tip a market already leaning toward tightening: investors now fully price a 25bp hike by October and are well on their way to pencilling in a second move in early 2027. Fed Chair Kevin Warsh refused to provide his own guidance, but significantly, the other half of the committee doesn’t think the Fed will hike. We agree with them.In an environment where many central banks are hiking interest rates, there’s a tendency to think that the Fed may not be far behind. We must remember, though, that the Fed has a different setup from the others. The European Central Bank and the Bank of Japan, both of which raised their policy rates by 25bp this month, have a single target: to get inflation to 2% and keep it there. The Fed has that target, but must also maximise employment as part of its mandate. It needs to optimise monetary policy for two very different goals.Caution Is Warranted on the Jobs NumbersRegarding the jobs market, growth in non-farm payrolls averaged just 8,500 per month between January 2025 and February 2026. The past three months saw a rebound in job creation, averaging 188,000 per month. But it remains concentrated in three sectors: private education & healthcare services, government and leisure & hospitality. However, this rebound in hiring has not shown up in business surveys on hiring intentions, such as in the ISM or NFIB reports, nor in daily job vacancy data from the likes of Indeed.Workers themselves aren’t believing it either, with confidence in the jobs market remaining bleak. The University of Michigan sentiment index shows a net 54% of households think unemployment will rise over the next 12 months. That’s as bad as the depths of the Global Financial Crisis and both the early 1980s and the early 1990s recessions.So, while the improving jobs numbers are great news, some caution is warranted. Given the tendency for payroll data to be revised downward during the annual benchmarking exercise at the start of the year, we need to be cognisant of the potential for a reappraisal.Weak Jobs Turnover Points to Slowing Wage GrowthSource: Macrobond, INGDisinflation Will Increasingly Be the Theme to WatchOn inflation, the Fed’s new fourth-quarter 2026 forecast for core PCE inflation of 3.3% is slightly higher than the Bloomberg consensus of 3.1%. Its fourth-quarter 2027 estimate of 2.5% is also 0.2ppt above consensus. The Fed is predicting higher headline inflation than private sector economists. However, the national average price for gasoline has already dropped from a peak of $4.60/gallon in late May to below $4/gallon today. We expect it to be down to $3.75 by next week, suggesting a negative headline month-on-month inflation print for June and possibly July as well. It will ease the inflationary pressures that had been building in freight rates. Airline fares should start to reverse their recent large increases.There are undoubtedly issues around semiconductor prices, but the biggest cost input for US corporates is not tech, tariffs or energy. It’s the cost of you and me – the worker. We’ve gone from a situation where, in 2022, there were two job vacancies for every unemployed American to being in balance today. This has taken a huge amount of froth out of wages. Moreover, the plunge in the quits rate – a measure of labour market churn – means companies are no longer having to pay up to retain staff. Wage inflation of 3% is fully consistent with 2% consumer price inflation.As Warsh said at the press conference, monetary policy doesn’t appear restrictive when considering the robustness of financial markets, but it does in light of the housing market. That is hugely important, given that the component with the heaviest weighting in the CPI is shelter, at 35%! Shelter inflation is currently running at around 3.5% year-on-year. With home prices barely rising 1% and rents now falling outright in a growing number of states, according to data from Zillow and Realtor.com, we expect this dominant housing component to exert steady downward pressure on overall inflation over the next 12 months.Then, rounding out the story, we have tariffs. They represent a one-off step change in prices. Now that we’ve arguably entered a less onerous tariff regime that includes lots of exemptions, we’re increasingly confident that their upward influence on inflation will rapidly fade. The Dallas Fed believes tariffs are contributing around 0.9ppt to the annual rate of core PCE deflator. As this drops to zero, core inflation should quickly descend.A Prolonged Pause to Next Summer Is Our CallWe recognise that the Fed has missed its inflation target for the past five years, and Warsh wants to put an end to this trend. Nonetheless, consumer inflation expectations are within tolerable ranges, suggesting little risk of second-round price effects from the energy spike. Those expectations are likely to fall sharply in light of the latest developments in gasoline prices. Meanwhile, market inflation expectations have plunged, with 10Y breakeven inflation rates in line with their 25-year average, while those for 2Y inflation have dropped below 2.2%. That implies expectations of rapid disinflation, considering CPI is currently running at 4.2%.Given this situation, we suspect that the next forecast update, due in September, will see far fewer than nine FOMC members predicting a rate rise before year-end. To us, the most likely course of action is for the Fed to hold rates steady for a prolonged period, perhaps until the summer of next year.***Disclaimer: This publication has been prepared by ING solely for information purposes irrespective of a particular user’s means, financial situation or investment objectives. The information does not constitute investment recommendation, and nor is it investment, legal or tax advice or an offer or solicitation to purchase or sell any financial instrument. Read moreOriginal Post