Goldman Sachs projects that the Federal Reserve will begin cutting interest rates in the first six months of 2024, according to a forecast over the weekend that the bank's economists acknowledge is "far from certain." In fact, Goldman economist David Mericle said in a client note Sunday that it's entirely possible that the Fed could choose to stay higher for longer as it worries about backing off too quickly in its inflation fight. However, he said the evidence is now accumulating that the Federal Open Market Committee not only can ease in the first half of next year but can keep going until it takes benchmark borrowing rates down sharply before it finally halts. "Our baseline forecast calls for cuts to start in 2024Q2, proceed at 25 [basis points] per quarter, and end at 3-3.25%," Mericle wrote. "But we do not see a strong need to cut and consequently we think there is a significant risk that the FOMC will instead hold steady." The federal funds rate is currently in a target range of 5%-5.25% , the highest level in more than 22 years. Lowering rates because inflation has come more closely in line with the Fed's 2% goal is the best-case forecast for easing, as opposed to being forced to do so by an economic slowdown or recession. Goldman now sees a minimal chance for contraction, a call that is gaining steam on Wall Street. The firm sees inflation as measured by core personal consumption expenditures prices dropping below 3% on a year-over-year basis by the midpoint of 2024. The PCE ex-food and energy level was running at a 4.1% annual pace as of June. That would put the Fed well on its way to its long-run objective. However, central bank officials have been cautious about declaring victory too soon over inflation that a year ago was running near its highest level in more than 40 years. "The motivation for cutting outside of a recession would be to normalize the funds rate from a restrictive level back toward neutral once inflation is closer to the target," Mericle said. "Normalization is not a particularly urgent motivation for cutting, and for that reason we also see a significant risk that the FOMC will instead hold steady." He added that Goldman has "long seen a high threshold for cutting because Fed officials will want to minimize the risk that they could regret cutting if inflation stays too high." "We are far from certain and have long put substantial probability weight on an outcome where the FOMC does not cut," Mericle wrote. Goldman's forecast is largely in line with market pricing for the first reduction and a little less aggressive than the full-year outlook. The fed funds futures market is assigning about an 80% probability for a first quarter-point rate cut in May 2024, according to CME Group calculations . The year-end implied funds rate is at 4.76%, which points to cuts of 150 basis points. In their latest projections, released in June, Fed officials projected a rate of 4.6% by the end of 2024. When all is said and done, Goldman thinks the Fed will stop cutting when the funds rate hits the 3%-3.25% range, higher than the 2.5% rate, where policymakers long have put the natural rate of interest when accounting for inflation.
