UBS pushes the next Fed rate cut expectation back to December 2026

Overview

This UBS U.S. Economics Weekly updates the U.S. macro outlook. After incorporating the latest CPI, PCE, energy futures, employment, and consumption data, the report concludes that higher energy prices are making the U.S. economic mix more stagflationary: slightly weaker growth, higher inflation, and a somewhat higher unemployment path. UBS therefore pushes its expectation for the next 25 bp Fed rate cut back to December 2026, while still expecting two additional 25 bp cuts in 2027.

Core views

The core conclusions are: first, changes in energy prices and financial conditions lower expected 2026 U.S. real GDP growth to 2.0%, while Q4 headline PCE and core PCE inflation rise to 3.2% and 3.0%, respectively; second, when upside inflation risks and downside employment risks coexist, the FOMC will adopt a 'balanced approach' and will have limited willingness to cut while inflation remains elevated; third, the labor market is more fragile than it appears, and if monthly inflation readings moderate and employment risks accumulate, a September cut remains a higher-probability upside scenario; fourth, support from AI/tech capex and stock-market wealth effects is too concentrated, and a pullback in tech investment or tech equities could pressure both investment and consumption.

Analysis framework

The report uses a macro forecast revision framework, combining the energy futures curve, CPI/PCE inflation, employment, wages, consumption, capital spending, fiscal rebates, FOMC minutes, and policymakers' remarks to reassess the paths for growth, inflation, unemployment, and the policy rate.

Methodology notes

• Monetary policybalanced approach

  dual-mandate trade-off

  When the Fed's employment objective and inflation objective point in different directions, policymakers must weigh the degree of deviation from targets and the time needed to return to them; UBS believes this framework explains why the FOMC remains cautious amid high inflation and downside labor-market risks.

• Macro forecastQ4/Q4 forecast revision

  Q4-over-Q4 forecast adjustment

  The report measures annual growth and inflation paths using Q4-over-Q4 changes, and adjusts its 2026 forecasts based on energy prices, consumption, investment, and labor-market data.

• Aggregate demand decompositionY = C + I + G - NX

  breakdown of consumption, investment, government, and net exports

  UBS uses aggregate demand decomposition to show that current growth support is concentrated in AI/tech capex and stock-market wealth effects, while government spending and most investment subcomponents are not the main drivers.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• U.S. policy rates

  Directly related

  Strengths

  Downside labor-market risk and a post-inflation-peak pullback could support rate cuts.

  Weaknesses

  When headline and core inflation are near or above 3%, the FOMC's willingness to cut is limited.

  Comparison

  Compared with market pricing of near-term hike risk, UBS thinks the risk of hikes in 2026 is low, with the risk more likely to emerge in 2027 over time.

  Risks

  Persistently high energy prices, rising inflation expectations, or more sticky core inflation.

• U.S. equities

  Macro wealth-effect and financial-conditions channel

  Strengths

  Strong equity wealth supports household consumption, and AI/tech capex supports investment.

  Weaknesses

  Equities account for nearly 40% of household net worth, so the wealth effect is highly valuation-dependent; if tech stocks pull back, consumption support could weaken.

  Comparison

  Traditional financial-conditions rules of thumb may understate the current impact of equities on household net worth and consumption.

  Risks

  Geopolitical shocks, slower AI capex, or a tech stock correction that tightens financial conditions.

• Energy and gasoline prices

  Source of inflation and real-income shock

  Strengths

  If energy prices fall, inflation pressure and erosion of real income would ease.

  Weaknesses

  Higher energy prices lift headline CPI and pass through to core inflation via airfare, delivery services, and related channels.

  Comparison

  The impact of this energy shock on the policy path comes not only through oil prices themselves, but also through mortgage rates and equities, which affect financial conditions.

  Risks

  A prolonged Middle East conflict, further oil-price increases, or de-anchored inflation expectations.

• AI/tech capex

  Core support for investment growth

  Strengths

  The report expects AI/tech-related capex to remain strong in 2026.

  Weaknesses

  Aside from software, AI/tech capex, and R&D, most other investment subcomponents are generally weak.

  Comparison

  UBS had previously expected the OBBBA to support broader investment, but current evidence is limited.

  Risks

  A slowdown in AI investment would drag on business investment and could affect consumption through tech-stock valuations.

Key data

• Next rate-cut expectation25 bp cut at the December 2026 FOMC meetingThe prior expectation was two cuts in 2026; the current base case is one cut in 2026 and two cuts in 2027.
• 2026 real GDP forecastQ4/Q4 2.0%Further lowered versus the previous forecast due to the energy-price shock and tighter financial conditions.
• 2026 headline PCE inflation forecastQ4/Q4 3.2%Raised by 0.4 percentage points versus the late-February forecast.
• 2026 core PCE inflation forecastQ4/Q4 3.0%Raised by 0.1 percentage points versus the late-February forecast.
• Unemployment path4.6% at the end of 2026The report argues that the labor market is more fragile, but the slightly lower starting point in March makes the rise slower.
• March core CPI0.20% m/m, 2.60% over 12 monthsEnergy drove a sharp increase in headline CPI, while core CPI rose modestly.
• February core PCE0.37% m/m, 2.97% over 12 monthsUBS expects the next two readings may reverse the previous 12-month decline in inflation.
• April University of Michigan 5-10 year inflation expectations3.4%Up 0.2 percentage points from the prior reading, but still about 1 percentage point below last April.
• Consumer sentiment47.6University of Michigan consumer sentiment fell to the lowest level in the series since 1952.

Impact & implications

For assets and policy, UBS's base case is not an immediate turn to aggressive easing, but a cautious stance in an environment where inflation remains elevated and labor-market risks still need to accumulate evidence. The U.S. rates market must price both-sided risks: persistently higher inflation from energy and tariffs could delay cuts and even raise the risk of hikes in 2027; if the labor market deteriorates faster, cuts could be triggered earlier. For equities, the report emphasizes that the stock-market wealth effect and AI/tech capex are too concentrated a support for growth, and a pullback in tech stocks or AI investment could amplify downside pressure on consumption and investment.

Risks

• Energy prices remain above assumptions for longer, keeping headline and core inflation elevated.
• Downside labor-market risks are underestimated, and participation changes could quickly push up unemployment.
• A weaker stock-market wealth effect reduces household consumption and tightens financial conditions.
• A pullback in AI/tech capex or tech stocks puts simultaneous pressure on both investment and consumption.
• The FOMC reacts slowly when inflation and employment objectives conflict, and policy lag could amplify economic volatility.
• Tariff pass-through and distortions in rent data could make the inflation path harder to judge in the near term.

What to watch

• The impact of March PPI and import price data on core PCE estimates.
• March headline PCE and core PCE readings, especially UBS's current tracking of 0.68% m/m for headline PCE and 0.31% m/m for core PCE.
• Whether April and May inflation validate UBS's view that inflation has peaked.
• Initial jobless claims, continuing claims, employment growth, labor-force participation, and U-5/U-6 unemployment rates.
• Speeches by FOMC officials before the blackout period, especially references to 'well-positioned' and 'balanced approach'.
• Whether industrial production, manufacturing surveys, small-business confidence, and housing activity continue to weaken.