How many Fed rate cuts in 2026?
I assess a 60% probability that the Fed will not cut rates at any point in 2026, reflecting a modest downgrade versus the market-implied ~78% that accounts for sustained Fed hawkishness but underweights downside risks to growth and financial stress.
Analysis
As of mid-2026 the baseline evaluating whether the Fed cuts in 2026 centers on inflation momentum, labor-market strength, and Fed communications; if core PCE inflation continues to be near or above the 2 percent target and unemployment remains low or stable, the Federal Reserve has a clear incentive to keep the funds rate at restrictive levels and avoid cuts. The Fed’s recent years of aggressive rate hikes mean policy is highly restrictive in real terms, and the committee has emphasized in prior cycles a willingness to maintain restrictive policy until there is convincing evidence that inflation is sustainably returning to target. That institutional posture argues in favor of no cuts absent clear disinflation or a significant economic slowdown.
Historically, the Fed has been data-dependent and cautious about cutting during a single calendar year when inflation has not clearly normalized; past cycles show that once the Fed reaches a sufficiently restrictive stance it often holds rates for extended periods rather than cutting quickly. Market-implied probabilities and options markets (reflected in futures and OIS curves) will move as data arrives, but the current market price (Yes ~77.6%) likely embeds a strong belief that inflation and labor will remain sufficiently robust to preclude cuts. I treat that market as a useful signal but adjust downward because economic downturn risk and episodic financial stress are underweighted in a calm data environment.
The primary sources of downside risk (which would make cuts more likely) are a sharp growth slowdown, a spike in unemployment, or renewed financial-sector stress that tightens credit conditions materially; any of these could force the Fed to cut even if inflation is above target in the near term. Conversely, persistent services inflation, sticky wage growth, or an unanchoring of inflation expectations would keep the Fed on hold or even risk further tightening, making zero cuts in 2026 the likeliest single-year outcome. Given these competing dynamics, a 60% probability reflects a tilt toward the Fed not cutting but leaves substantial room for one or more cuts should growth or financial conditions deteriorate during the year.
Arguments
For
- Inflation remaining near or above target would justify keeping policy restrictive and avoiding cuts throughout 2026.
- A persistently strong labor market with low unemployment would reduce the Fed’s urgency to cut rates.
- Fed leadership has historically preferred to wait for clear evidence of improvement before easing, favoring no cuts.
- Tight financial conditions from prior hikes could take time to feed through, reducing the need for additional accommodation quickly.
- Elevated long-term inflation expectations would raise the cost of cutting prematurely and encourage patience.
Against
- A material economic slowdown or recession would make one or more cuts in 2026 likely to support growth and employment.
- Renewed financial stress or a credit crunch could force emergency or off-calendar cuts even if inflation is sticky.
- Faster-than-expected disinflation would lower the bar for easing and increase the chance of at least one cut.
- Deterioration in labor-market indicators such as rising unemployment claims could rapidly shift the Fed toward cuts.
- Market-implied yields and option markets could price in cuts quickly, creating feedbacks that make easing more politically and practically feasible.
Key drivers
- Core PCE inflation trajectory through 2026, especially services inflation excluding housing.
- Labor market resilience measured by unemployment rate, payroll growth, and wage growth trends.
- Federal Reserve forward guidance and FOMC minutes signaling tolerance for restrictive policy or readiness to ease.
- Real economic growth and GDP revisions that could necessitate a preemptive easing to prevent recession.
- Financial conditions including credit spreads, bank lending standards, and risk premia that can tighten organically.
- Market-implied rates and equity/credit price action that influence the Fed’s assessment of policy stance and spillovers.
Risk factors
- A sharper-than-expected slowdown or recession in the U.S. that raises unemployment and forces policy easing.
- A banking, shadow-banking, or liquidity crisis that materially disrupts credit intermediation and prompts emergency cuts.
- Rapid disinflation due to commodity shocks reversing or a collapse in services inflation, reducing the need for restrictive policy.
- A fiscal shock that materially weakens demand and pushes the Fed toward easing to stabilize the economy.
- An unanticipated deterioration in global growth that amplifies domestic slowdown via trade and financial channels.
- Political pressure or a sudden shift in Fed leadership/communication that lowers the threshold for cutting.
Scenarios
Best case
For the 'Yes' outcome, inflation measures cool gradually but remain around target while employment stays firm and financial conditions stay stable, allowing the Fed to maintain restrictive policy with confidence that disinflation will proceed without cuts, resulting in zero 25-bp cuts in 2026.
Most likely
The most likely path is a balanced scenario in which inflation slowly moves toward target but remains sticky in services while the labor market softens modestly, producing elevated uncertainty that keeps the Fed on hold for much of 2026 but leaves a 40% chance that deteriorating growth or financial conditions prompt at least one cut before year-end.
Worst case
For the 'No' outcome, a sharper-than-expected contraction in growth, rising unemployment, or an acute banking/credit event forces the Fed to implement one or more 25-bp cuts (including emergency off-calendar actions) during 2026, quickly negating the market’s high confidence in no cuts.
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