Key takeawayAlthough the Fed chair highlighted progress on inflation, Nomura believes inflation remains high and the economy and employment are resilient, supporting one final Fed rate hike in December.
Why does Nomura still expect a rate hike despite the chair’s dovish tone?
- The Fed held rates steady in October as expected, but Governor Cook unexpectedly joined Cleveland Fed President Hammack in voting for a hike. After the meeting, Chair Warsh emphasized progress on inflation, played down the risk of overheating demand, and did not view strong demand from AI investment as a reason for further tightening.
- Nomura believes Warsh is willing to tighten further if necessary but is unlikely to actively push for a rate hike; when asked about a hike in December, he did not rule it out. The bank maintains its forecast for a 25-basis-point hike in December, followed by no change throughout 2027.
- Officials’ comments after the meeting also pointed to further tightening: St. Louis Fed President Musalem said tightening was needed soon, while Dallas Fed President Logan supported another 50 basis points of tightening. On that basis, Nomura concluded that the October decision may have been only a pause.
What signal did the inflation data send for policy?
- The core PCE price index rose 0.317% month on month in September, broadly in line with Nomura’s forecast; however, the July and August figures were revised up by 1 and 2 basis points, respectively, pushing the September year-on-year increase to 3.121%, above the bank’s forecast of 3.067%.
- Inflation breadth improved slightly: the share of the 199 PCE components rising at least 3% year on year fell to 48.2%, the lowest since January. Meanwhile, core PCE rose by about 0.3% month on month in both August and September, showing that price pressures persist.
- Nomura expects year-on-year core PCE inflation to remain above 3% through the end of 2026; over the medium term, it is expected to decline gradually as wage growth slows, rent increases ease, and the effects of tariffs and energy prices diminish.
How is AI investment driving growth, and what is offsetting it?
- US real GDP grew at an annualized quarter-on-quarter rate of 3.4% in the third quarter, above the market consensus of 3.2%; consumption grew 3.8% for a second consecutive quarter, real business investment rose 12.7%, and capital spending strength also extended to machinery and other equipment.
- Real investment in information-processing equipment grew at an annualized quarter-on-quarter rate of 37% in the third quarter, but much technology equipment depends on imports. Nomura noted that imports subtracted 2.6 percentage points from annualized GDP growth that quarter; after adjusting for imports, AI investment’s net contribution to GDP growth was more modest.
- High borrowing costs, meanwhile, weighed on housing: residential investment fell at an annualized quarter-on-quarter rate of 3.3% in the third quarter, subtracting 0.12 percentage points from GDP growth; leading indicators suggest weakness may persist into winter.
How will employment data affect the December decision?
- Nomura expects nonfarm payrolls to rise by 80 thousand in October, above the 29 thousand increase in September and the 61 thousand average over the past three months; the unemployment rate is expected to fall from 4.2% to 4.1%. Falling initial jobless claims and moderate layoffs underpin the bank’s view that labor demand is stabilizing.
- The bank expects job openings in September to rise to 7.36 million from 7.079 million in August. On wages, Nomura expects monthly average hourly earnings growth to rebound from 0.1% in September to 0.3% in October, although broader wage growth measures have recently cooled.
- Nomura believes the labor market is resilient but shows no signs of overheating; if the employment report matches its forecast, the Fed will remain on track to raise rates in December.
