PIMCO: Fed expected to begin rate normalization in September
By Tiffany Wilding, Economist at PIMCO
U.S. inflation, as measured by core and headline Consumer Price Index (CPI) for July, was broadly in line with our expectations. Core inflation for the month rose 0.3%, with the volatile travel services categories accounting for a slight upside surprise. The year-over-year rate of core inflation ticked up to 3.1% from 2.9%, and we continue to expect it to edge up to a peak of 3.4% by year-end as tariff-related costs are passed on to consumers.
Cost pass-through from tariffs has so far been slow and uneven, with companies largely absorbing these price increases. We believe there are good reasons for there to be gradual pass-through of prices to consumers, including 1/ healthy starting corporate margins, 2/ a more price-sensitive consumer, and 3/ business tax offsets in recent legislation.
This data, together with recent consumer surveys show moderating inflation expectations and slowing labor market momentum, provides a reasonable backdrop for the Federal Reserve to begin rate normalization in September, even if year-over-year inflation remains above target. We continue to expect two 25bp cuts in the second half of the year, followed by an additional 50bps of cuts in 2026.
