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Investing.com - The Federal Reserve is seen cutting interest rates by between 50 to 75 basis points this year, sparking a drop in short-term U.S. Treasury yields at a faster pace that their long-term counterparts, according to analysts at BCA Research.
In a note, the analysts led by Ryan Swift argued that a tepid reading of the U.S. consumer price index -- a crucial inflation gauge -- for July particularly "tips the scales in favor" of a 25-basis point cut at the Fed’s next meeting in September, with officials at the central bank opting to prioritize supporting a weakening labor market over still above-target price gains.
This ongoing slowing in the jobs picture is tipped by BCA to also persuade policymakers to roll out one or two further quarter-point drawdowns before the end of the year.
Consumer prices rose by 2.7% in the twelve months to July, data from the Bureau of Labor Statistics showed on Tuesday. The pace matched that logged in June and was slower than economists’ predictions of 2.8%. On a month-on-month basis, CPI edged up by 0.2%, in-line with estimates and cooler than 0.3% in June.
Stripping out volatile items like food and fuel, so-called "core" CPI increased by 3.1% year-over-year, compared to 2.9% in the previous month and projections of 3.0%. Month-on-month, the underlying metric ticked up to 0.3% from 0.2% as expected.
Economists have been flagging concerns that the core CPI figure could see more upward pressure as goods exposed to elevated U.S. tariffs are increasingly passed on to American consumers.
But the BCA analysts said the CPI reading adds some credence to other arguments that inflationary pressures from the tariffs would prove to be "transitory" in nature.
"In fact, it may convert a few more into the transitory camp," the analysts wrote.
Following the inflation figures, the gap between short- and long-dated U.S. Treasury yields "steepened significantly," the strategists noted, adding that this is "consistent with investors pricing-in a more dovish Fed, but also that the Fed might be making a dovish policy mistake." Short-dated bonds, such as 2-year Treasuries, are typically more sensitive to rate expectations.
"We would expect this sort of Treasury market action to continue in a world where the unemployment rate is stable but where inflation comes down, allowing the Fed to cut rates despite a low unemployment rate. This scenario would likely lead to relatively stable long-end yields and a steeper curve," they argued.