• Markets continue to price in roughly three Fed rate cuts for 2025 despite recent policy holds.
  • Divergence emerges between market expectations and economic projections as inflation proves sticky.
  • Future cuts hinge on economic data, with June seen as the likely starting point for easing.

Fed Holds Firm Amid Inflation Concerns

Traders are maintaining expectations for approximately three Federal Reserve rate cuts in 2025, even as policymakers have kept rates steady in the 4.25% to 4.5% range through the first quarter. The Fed's cautious approach follows consecutive holds in January and March meetings, driven by persistent inflation and policy uncertainty.

Market pricing reflects an average of potential scenarios, ranging from just one to two cuts if inflation remains elevated to more aggressive easing should economic conditions deteriorate. This outlook comes despite the Fed's downgraded growth forecast (from 2.1% to 1.7% for 2025) and upward revisions to both headline and core inflation projections.

The June Pivot Point

Analysts at Morningstar align with market expectations, projecting three total cuts this year that would bring the federal funds rate to 3.50%-3.75% by December. Most anticipate the first cut will occur in June, following the Fed's recent pattern of postponements. "The Fed wants clear evidence inflation is moving toward target before acting," said one market strategist who asked not to be named discussing central bank policy.

The central bank has simultaneously adjusted its balance sheet strategy, slowing quantitative tightening by reducing the monthly Treasury redemption cap from $25 billion to $5 billion while maintaining the $35 billion cap for mortgage-backed securities.

Longer-Term Uncertainty

Looking beyond 2025, analysts forecast the federal funds rate could fall to 2.25%-2.50% by mid-2027 as inflation cools and economic growth slows. However, notable gaps remain between some expert projections and futures market pricing regarding the terminal rate. The path forward remains highly data-dependent, particularly regarding the impact of potential tariff measures and their effect on inflation dynamics.

When reached for comment, a Fed spokesperson reiterated the committee's data-dependent approach, noting that no predetermined path for policy exists. Market participants will closely scrutinize upcoming employment and inflation reports for clues about the timing and magnitude of any policy easing.