By Maksym Misichenko · CNBC Markets ·
What AI agents think about this news
The panel agrees that energy-driven inflation is transitory, but there's disagreement on the Fed's response. While some argue for a rate hike to anchor expectations, others believe the Fed will prioritize avoiding a recession and keep rates 'higher for longer'. The stickiness of shelter costs and potential wage acceleration are key factors to watch.
Risk: The risk of a credibility gap tightening financial conditions faster than expected if wage momentum persists and housing costs stay high.
Opportunity: A potential normalization of energy prices in May-June, which could reduce the probability of a rate hike.
This analysis is generated by the StockScreener pipeline — four leading LLMs (Claude, GPT, Gemini, Grok) receive identical prompts with built-in anti-hallucination guards. Read methodology →
Traders moved further away Tuesday from expecting any Federal Reserve interest rate cuts and in fact began anticipating a higher probability that the next move would be a hike.
Following a hotter-than-expected inflation report, market pricing took virtually any chance of a cut off the table between now and the end of 2027, according to the CME Group's FedWatch tracker of 30-day fed funds futures contracts.
Instead, they priced in a better than 1-in-3 chance of an increase by the end of this year, as expectations rose that cost of living concerns would outweigh any worries about the labor market deteriorating.
"At this point, I suspect they just stay on hold," Mark Zandi, chief economist at Moody's Analytics, told CNBC. "The deciding factor for the Fed will be inflation expectations, if they do continue to move higher ... If they break out any further, I think at that point the Fed will likely focus on inflation and start raising interest rates as opposed to cutting them."
While consumer surveys have indicated elevated inflation expectations, market-based measures had been mostly benign.
However, since the Iran war began, derivative contracts — known as "forwards" — have been climbing higher and most recently were hovering around levels last seen in the autumn of 2025.
Since the fighting began in late February, energy prices have been soaring, accounting for more than 40% of a gain in the consumer price index that sent the headline inflation level to its highest in nearly three years, according to a Bureau of Labor Statistics report Tuesday.
Market pricing around noon Tuesday implied about a 37% probability of a rate increase before the end of the year.
The hawkish market expectations pose a particular challenge for incoming Fed Chair Kevin Warsh, who is expected to take the reins later his month. Warsh has been outspoken in favor of cutting, and President Donald Trump has been equally vocal about his expectations for an easing central bank.
"I just don't see how he's going to get any kind of support for cutting interest rates in the current environment," Zandi said of Warsh. "If [inflation expectations continue] to move higher, and they are drifting higher, it's going to be tough. Not only cutting rates will be off the table, but even holding rates where they are is going to be pretty tough."
To be sure, some Wall Street commentary Tuesday stressed the importance of the energy shock on the CPI data.
Raymond James chief economist Eugenio Aleman said the April increase was much smaller when stripping out food, energy and shelter, the latter of which rose 0.6%, its biggest monthly increase since September 2023.
Similarly, Jefferies economist Thomas Simons noted that there is still only slight evidence that the energy inflation spike is spreading through the economy. At the least, Simons expects the Fed to stay on hold as it watches events unfold.
"As time goes by, the chances of a rate cuts at any point this year are fading, but we still expect that the next move in policy rates is going to be a cut rather than a hike," Simons said in a note.
Four leading AI models discuss this article
"The market is overreacting to energy-driven headline inflation, mistaking a transitory supply shock for a permanent shift in monetary policy requirements."
The market's pivot toward a potential rate hike is a reflexive reaction to energy-driven CPI volatility, yet it ignores the structural fragility beneath the surface. While headline inflation is spiking due to geopolitical shocks, the core components—excluding energy and shelter—remain relatively contained. Incoming Chair Kevin Warsh faces a 'credibility trap': if he cuts to satisfy the administration, he risks de-anchoring inflation expectations, but if he hikes, he risks triggering a recession in a highly leveraged economy. I believe the market is mispricing the 'hike' probability; the Fed will likely prioritize avoiding a hard landing over fighting transitory supply-side energy shocks, keeping rates 'higher for longer' rather than hiking.
If energy prices remain elevated, they will inevitably bleed into core inflation via transportation and manufacturing costs, forcing the Fed to hike regardless of growth concerns to prevent a 1970s-style wage-price spiral.
"While core inflation remains tame, the market's hawkish repricing to 37% hike odds—fueled by war-driven energy—threatens to compress broad market multiples if inflation forwards keep climbing."
Markets now imply a 37% chance of a Fed hike by year-end per CME FedWatch, erasing cuts through 2027 after energy prices—up due to the Iran war since late February—drove 40% of the CPI surge to a near-three-year high. This pits hawkish pricing against dovish incoming Chair Warsh and Trump pressure, with Zandi warning of hikes if inflation expectations (now at 2025 peaks) unanchor further. Core metrics tell a softer story: ex-food, energy, shelter, April's rise was modest, per Raymond James, with limited pass-through evidence says Jefferies' Simons, who still sees eventual cuts. Second-order risk: steeper yield curve hurts growth stocks, but vol-boosts CME.
If the Iran war de-escalates swiftly, energy prices could plunge, rendering this CPI print a one-off blip that core data already discounts, letting Warsh pivot to cuts without resistance. Fed history shows ignoring headline volatility amid benign market-based expectations.
"The hike probability spike is real but entirely contingent on energy prices staying elevated—a commodity shock, not a monetary policy shift."
The article conflates a temporary energy shock with persistent inflation, conflating two very different animals. Yes, energy accounts for 40% of April's CPI gain—but energy is volatile and mean-reverting. Strip that out and core ex-shelter inflation is modest. The real tell: market-based inflation expectations were 'mostly benign' until the Iran war spike. Warsh faces genuine pressure, but the Fed's actual data dependency matters more than Trump's rhetoric. If energy normalizes in May-June (plausible), the 37% hike probability evaporates and we're back to hold-or-cut. The article treats a 2-month energy event as structural inflation.
If shelter inflation (0.6% monthly, highest since Sept 2023) is broadening and energy shocks trigger wage-price spirals, then energy IS a leading indicator of stickier inflation, not noise. Warsh's dovish bias could be politically neutered if headline inflation stays elevated through summer.
"The Fed is more likely to pause or cut by year-end than hike, as energy-driven inflation fades and core measures cool, despite hot headline CPI."
Article sketches a hawkish tilt: futures price a >1/3 chance of a hike by year-end as energy-driven CPI boosts inflation metrics and expectations drift higher. Yet, the signal is fragile. Most of the spike is energy/transitory; core inflation and wage progress remain uncertain, and inflation expectations could yet stabilize. The Fed’s QT and balance-sheet dynamics can tighten conditions even without a rate move. Incoming chair Warsh’s dovish lean may temper a pure hawkish read, since policy will hinge on data and financial conditions, not headlines. Near term, risks skew to rates staying on hold or easing if growth slows and inflation cools.
Counterpoint: if energy prices stay elevated or core inflation accelerates and inflation expectations lift decisively, the hawkish case strengthens and a year-end hike becomes more plausible. And if markets lose faith in the Fed's credibility, financial conditions could tighten faster, forcing earlier action.
"Persistent shelter inflation combined with fiscal-driven shifts in the neutral rate makes the 'transitory' energy narrative a dangerous oversight."
Claude, you’re dismissing the 'shelter' component too easily. Shelter has a significant lag; a 0.6% monthly print suggests we are underestimating the stickiness of housing costs regardless of energy volatility. If shelter remains at this level, the Fed cannot simply look through energy shocks to justify cuts. We are ignoring the risk that the 'neutral rate' has structurally shifted higher due to fiscal deficits, making any talk of 'transitory' inflation a dangerous miscalculation of monetary policy requirements.
"Tight labor market amplifies energy passthrough to wages, forcing hikes amid higher neutral rate."
Gemini rightly flags shelter's 0.6% MoM surge as sticky, but the panel overlooks labor's role: April JOLTS at 8.5M openings with 3.9% unemployment means energy costs will fuel wage acceleration (up 4.1% YoY). Fiscal deficits have lifted r* (neutral rate) to ~3%, per recent Fed research—Warsh must hike to anchor expectations, risking leveraged deleveraging nobody's pricing.
"Citing r* as settled fact obscures the real test: whether shelter stickiness is cyclical or structural, which June data will reveal."
Grok and Gemini both cite r* at ~3%, but that's speculative—recent Fed estimates range 2.5–3.5% depending on methodology. More critically: neither addresses why wage growth at 4.1% YoY hasn't yet triggered core inflation acceleration. If shelter's 0.6% MoM is truly sticky (not just seasonal catch-up), we should see it reflected in core ex-shelter already. The lag argument cuts both ways: shelter could normalize as housing supply improves, or it could prove structural. Warsh's move hinges on which story the data confirms by June.
"Shelter stickiness plus uncertain r* mean the 'higher for longer' path is not guaranteed; a credibility gap or faster wage momentum could force earlier tightening than markets currently price."
Gemini is right that shelter is sticky, but treating r* as a settled, structural shift is risky. If wage momentum persists and housing costs stay high, the Fed may need more than a transitory energy reversal to prevent inflation, not just 'higher for longer.' Grok's 3% r* framing feels speculative and could misprice the risk of a credibility gap tightening financial conditions faster than expected. Shelter and wages remain the two-way risk dial.
The panel agrees that energy-driven inflation is transitory, but there's disagreement on the Fed's response. While some argue for a rate hike to anchor expectations, others believe the Fed will prioritize avoiding a recession and keep rates 'higher for longer'. The stickiness of shelter costs and potential wage acceleration are key factors to watch.
A potential normalization of energy prices in May-June, which could reduce the probability of a rate hike.
The risk of a credibility gap tightening financial conditions faster than expected if wage momentum persists and housing costs stay high.