Fed: Rate Cut Prospect Fades, Rate Hike Reconsidered

A Bias Toward Easing Now Questioned Within the FOMC

According to the minutes published on May 20 by the Federal Reserve, a majority of FOMC participants believe that further tightening “would likely become appropriate” if inflation remains persistently above the 2% target. Several officials also felt that the easing bias present in the April statement, which hinted at a possible rate cut as the next step, was no longer suitable.

The policy rate remains unchanged in the 3.50%-3.75% range, but the narrative is shifting: a rate increase is once again explicitly discussed, even though the Fed states its decisions will continue to be data-dependent, made on a meeting-by-meeting basis. Therefore, the minutes do not confirm an imminent hike but do reduce the clarity on a swift timeline for rate cuts.

According to the Bureau of Economic Analysis, the total PCE index rose by 3.5% year-over-year in March 2026, while the core PCE, excluding food and energy, increased by 3.2%. These levels remain above the Fed’s 2% target, complicating the timeline for a sustained return of inflation to the goal.

This communication reinforces the idea that the status quo on rates might last longer than previously expected. It notably impacts market segments sensitive to the level of short-term rates and monetary policy expectations.

The Energy Shock at the Core of the Reaction Function

The FOMC minutes explicitly link the persistence of inflationary pressures to rising energy prices and the conflict in the Middle East. These factors have helped keep inflation expectations and short-term sovereign yields at a high level in several advanced economies, according to the Federal Reserve document.

However, the sequence has provided a notable counterpoint. Following Donald Trump's announcement of advanced talks between Washington and Tehran, oil prices sharply declined during the session. Brent fell by about 6% to 8% intraday, depending on the timing and indices considered, while WTI briefly fell below $100 per barrel.

If a sustainable de-escalation is confirmed, it could alleviate the energy component of inflation and provide leeway for the Fed. Conversely, a breakdown in discussions could reignite the risk premium on hydrocarbons. Therefore, the trajectory of U.S. rates will largely depend on the evolution of the energy shock related to the Middle East conflict, as well as future data on inflation, employment, and economic activity.

Global Financial Conditions and Refinancing Costs

The tightening of the Fed's rhetoric comes amid an already tense geopolitical environment. Alongside the conflict in the Middle East, European discussions on sanctions against Russia and Iran maintain a climate of uncertainty for the markets.

For European markets, the combination of a less accommodative U.S. monetary bias and persistent geopolitical risk fosters an environment of high interest rates. Short-term sovereign yields in several advanced economies remain above their pre-geopolitical shock levels, according to the Fed's minutes. This situation can raise refinancing costs, particularly for heavily indebted states and companies whose financial structure relies on short maturities.

The context overlaps with an expansive budgetary cycle in Europe, notably marked by the €36 billion extension to France's military programming law. Upcoming points of interest for investors will be inflation reports in the U.S. and the eurozone, as well as developments in U.S.-Iranian talks, on which a significant portion of the energy price trajectory will depend.

A Tougher Message, But Still Conditional

The signal sent by the Fed remains conditional. The minutes do not indicate that a rate hike is decided, but that it could become appropriate if inflation remains persistently above the 2% target. This nuance is important for investors: the central bank is not closing the door on future easing, but it is reducing visibility for a scenario of rapid rate cuts.

The April meeting thus confirms a Fed that is more dependent on data published month after month. PCE inflation figures, wage trends, inflation expectations, and labor market dynamics will be crucial in guiding future decisions.

PCE Remains the Key Indicator to Watch

The key indicator remains the PCE deflator, the Fed's preferred measure of inflation. In March 2026, the total PCE index rose by 3.5% year-over-year, compared to 2.8% in February, while the PCE excluding food and energy increased by 3.2%.

Both figures remain above the 2% target, which explains the tougher stance from several monetary officials. The next PCE release will therefore be crucial in confirming or refuting the scenario of more persistent inflation.

Direct Impact on Growth Stocks

For equity markets, the Fed's change in tone primarily impacts stocks whose valuation heavily relies on future earnings. When short-term rates remain high, long-term expected cash flows are more discounted, which tends to decrease the theoretical value of growth companies.

Conversely, sectors capable of maintaining their margins in an inflationary environment, or benefiting from a high-interest rate level, may fare better. However, this interpretation still depends on the results published by companies and their ability to pass on rising costs.

The Dollar and Short-Term Rates Return as Key Variables

The tightening of the U.S. monetary bias can also support the dollar, all else being equal, if markets believe that U.S. rates will remain higher than those of other major economies. For European investors, this scenario has several effects: it can increase the cost of certain imports denominated in dollars, alter expectations regarding the margins of companies exposed to the United States, and weigh on emerging markets that are most sensitive to financing in U.S. currency.

The Fed's minutes already indicate persistent tension in short-term yields in several advanced economies, linked to inflation expectations and energy risks. This development makes short-term rates and the dollar two central variables for upcoming market arbitrages.

A Fed Caught Between Two Opposing Risks

The challenge for the Fed lies in balancing two risks. On one hand, inflation driven by energy, tariffs, or price expectations might require a more restrictive policy. On the other hand, tightening too much could weigh on activity, credit, and financial markets.

The April minutes show that the central bank has not yet resolved this dilemma, but it no longer wants to imply that the next natural step would necessarily be a rate cut. For investors, the message is clear: the central scenario is no longer one of automatic easing, but rather a Fed ready to adopt a harsher stance if inflation figures do not decline.