Diverging Expectations on Fed Rate Hikes: Morgan Stanley Predicts No Rate Increases This Year, Deutsche Bank Warns of Dollar Pressure from Balance Sheet Reduction

The market is showing clear divergence regarding the Federal Reserve's future monetary policy path. Former New York Fed President Dudley believes that the pressure for a rate hike may resurface in the fall, while Morgan Stanley predicts that the Fed will keep rates unchanged this year. Deutsche Bank warns that if the Fed shifts to tightening policy through balance sheet reduction, the dollar may face sustained pressure. Dudley points out that although recent declines in gasoline prices, improvements in core inflation, and a slowdown in job growth reduce the necessity for short-term rate hikes, there are still four reasons to support maintaining a tight policy: the U.S. unemployment rate is close to full employment levels, core inflation is in the range of 2.4%-3.3%, financial conditions have not tightened significantly, and the expansion of the AI industry may push prices higher. In contrast, Michael Gapen, chief U.S. economist at Morgan Stanley, believes that the Fed is likely to remain on hold for the entire year and expects only two rate cuts after inflation falls in 2027. The firm argues that the impact of tariffs on prices is diminishing, housing inflation is decreasing, the easing of tensions in Iran is pushing oil prices down, and a cooling job market is reducing the need for rate hikes. George Saravelos, head of foreign exchange at Deutsche Bank, stated that if the Fed chooses to replace rate hikes with balance sheet reduction, it could be bearish for the dollar.

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