Oil Price Decline Could Remove Some Central Bank Hawkish Bias: Citigroup Global Markets

Andrew Hollenhorst, Chief US Economist at Citi Research, argues that falling oil prices could prompt a dovish shift at the Federal Reserve. He believes that the recent decline in oil prices has turned what was previously an upside risk to inflation into a deflationary pressure. This change in the inflation outlook, coupled with a weakening labor market, could create an opening for Fed Chairman Kevin Warsh to advocate for interest rate cuts at the upcoming policy meeting.

Hollenhorst's view contrasts with many bond traders and other Wall Street analysts who anticipate further rate hikes. The decline in Brent crude to below $80 a barrel, occurring after a potential deal between the US and Iran to reopen the Strait of Hormuz and extend a ceasefire, is seen as a key factor enabling the Fed to consider a more accommodative stance. This effectively removes an inflationary concern that previously dominated the monetary policy discussion.

The implications of a dovish Fed, as suggested by Hollenhorst, could lead to a positive environment for fixed income assets as inflation concerns ease. Citi's broader global macro strategy also favors countries with below-target inflation, expecting them to experience stronger rate rallies. Despite a generally positive outlook for equities post-deal, tactical caution is advised due to signs of market exuberance.

However, this perspective is not universally shared. Other reports indicate that the Fed, under Chairman Kevin Warsh, might remain hawkish despite the drop in oil prices. The unanimous 12-0 vote to hold the funds rate at 3.50-3.75 percent, the removal of forward guidance, and a hawkish shift in the 2026 median dot to 3.8 percent suggest that the Fed may be more concerned with sticky services inflation and a tight labor market than with the decline in headline energy costs. For example, core CPI running at 2.9 percent year-over-year while headline CPI is at 4.2 percent highlights the gap driven by energy, but the Fed appears to be focusing on the services component, which remains elevated at 4.7 percent.