Why Morgan Stanley now sees four straight Fed interest-rate cuts - but not a jumbo hike to start

By Steve Goldstein

Morgan Stanley is expecting four straight rate cuts from the U.S. Federal Reserve.

Morgan Stanley's economists have quickly swung their stance on U.S. interest-rate cuts, and in a new note to clients on Friday are forecasting four consecutive quarter-point rate reductions.

Economists led by Michael Gapen said the underlying details of the consumer price index released Thursday were actually benign - estimating that core personal consumption expenditure price index will rise just 0.18% on a monthly basis, despite the 0.35% gain in CPI.

That's as tariff pass-throughs have been less steep than feared. "Softer-than-expected inflation may give the Fed greater confidence that inflation expectations remain anchored despite tariff-driven pressures," they said.

That will alow the U.S. central bank to focus more on faltering jobs picture - not just the low levels of employment growth, but also the tick higher in the unemployment rate, declining manufacturing payrolls and the vacancy rate falling below 1.

Taken together, the Morgan Stanley team that had previously been forecasting three straight rate reductions - and before Chair Jerome Powell's Jackson Hole speech was expecting no change in September - now sees four reductions.

From there, they expect the Fed will pause to figure out how close rates are to neutral, and then for cuts to resume in April and July.

The end point is still the same, for the terminal rate to conclude between 2.75% and 3%.

Morgan Stanley's team did answer two of the logical questions their note raises. For one, why not just start the new cycle with a half-point cut in September? "Because the unemployment rate remains relatively low, and the fed funds rate is already 100bp closer to neutral than it was last year. Gradual easing is more likely when policy is modestly restrictive," they say.

And why have the extra cut in January? "Cutting only 75bp would leave the fed funds rate slightly above the Fed's upper bound estimates of neutral," they reply.

The 2-year Treasury yield BX:TMUBMUSD02Y reached the third-lowest level of the year on Thursday after CPI data was paired with a report showing rising initial jobless claims. The S&P 500 SPX meanwhile logged its 24th record high of the year.

-Steve Goldstein

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09-12-25 0600ET