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Goldman Sachs and Morgan Stanley differ on Fed rate cut forecasts

Morgan Stanley economists predict the Federal Reserve will make sharp interest rate cuts over the next two years as inflation subsides, while Goldman Sachs Group Inc. analysts expect fewer cuts and a later start.

The central bank will begin cutting rates in June 2024, then again in September and at each meeting starting in the fourth quarter, each in increments of 25 basis points, Morgan Stanley researchers led by the economist in US leader Ellen Zentner in their outlook for 2024. This will bring the policy rate down to 2.375% by the end of 2025, they said.

Goldman Sachs, for its part, forecasts an initial reduction of 25 basis points in the fourth quarter of 2024, followed by a reduction per quarter until mid-2026, for a total of 175 basis points, with rates stabilized at a target of 3.5% to 3.75%. range. This is what economist David Mericle’s outlook for 2024 reveals, also published on Sunday.

Goldman Sachs’ forecasts are closer to those of the central bank. The Fed’s September projections call for two-quarter point cuts for next year and a policy rate ending in 2025 at 3.9%, according to policymakers’ median estimates. Fed governors and regional bank presidents will update their forecasts at next month’s meeting.

The Morgan Stanley team sees a weaker economy that warrants more easing, but not a recession. They expect unemployment to peak at 4.3% in 2025, compared to the Fed’s estimate of 4.1%. Growth and inflation will also be slower than officials expect.

Here are some forecasts from Morgan Stanley and Goldman Sachs for 2025, compared to the median of Fed officials’ projections in September:

“High rates for a prolonged period cause a persistent drag, more than offsetting the fiscal boost and bringing growth sustainably below potential starting in 3Q24,” Zentner’s group said in its report. “We remain confident that the Fed will achieve a soft landing, but that weakening growth will fuel fears of a recession.”

The United States is expected to avoid a slowdown as employers retain workers, although hiring will slow, Morgan Stanley said. This will weigh on disposable income and therefore spending, they said.

The team also expects the central bank to begin phasing out its quantitative tightening next September until it ends in early 2025. It sees the Fed reducing Treasury liquidation caps by 10 billion dollars per month and continue to reinvest mortgage loans in Treasury bonds.

Goldman Sachs expects the Fed to keep rates relatively high due to a higher breakeven rate as “post-financial crisis headwinds are behind us” and larger budget deficits are likely to persist and stimulate demand.

“Our forecast could be seen as a compromise between Fed officials who see little reason to keep the funds rate high once the inflation problem is resolved and those who see little reason to stimulate an economy already strong,” Goldman’s Mericle wrote.

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