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Fed and European Central Bank could cut interest rates in September, Morgan Stanley strategist says

U.S. Federal Reserve Chair Jerome Powell delivers remarks during a press conference following the announcement that the Federal Reserve left interest rates unchanged, in Washington, U.S., June 12, 2024. 

Evelyn Hockstein | Reuters

The U.S. Federal Reserve and European Central Bank could move to cut interest rates in September as key data provides further signs that inflation is cooling in the U.S. and the euro zone, a Morgan Stanley strategist said Friday.

Andrew Sheets, managing director and head of cross-asset strategy, told CNBC that the bank had grown bullish about the prospect of dual cuts, amid recent consumer price index (CPI) and labor market data in the U.S. and Europe.

“We’re more optimistic that both the Fed and ECB will cut rates in September,” he told “Squawk Box Europe.”

The two central banks showed signs of monetary policy divergence earlier this month, as the ECB implemented its first interest rate cut in almost five years, while the Fed insisted that U.S. inflation remains too high to take a similar step.

“It’s understandable that these central banks don’t want to pre-commit. They don’t want to sound overly complacent about the risks of inflation,” Sheets said.

“But we think the data that the ECB will see by September is inflation [is] continuing to moderate. And I think, for the Fed, inflation is continuing to fall,” he added.

Euro zone inflation surprised to the upside in May, rising by 0.2 percentage points on a month-on-month basis to hit 2.6%. Fluctuations had been expected, due to base effects from the energy market and the unwinding of government support across the bloc.

U.S. inflation, meanwhile, held steady in May but was up 3.3% from a year ago, the latest CPI showed earlier this month. That was an improvement on the 0.1% monthly gain economists had expected.

Markets are now watching out for May’s core personal consumption expenditures price index (PCE), the Fed’s preferred inflation gauge, due Friday morning.

Analysts expect headline PCE to come in flat from April and 2.6% higher on the year. Excluding volatile food and energy prices, core PCE is forecast to come in 0.1% higher month-on-month, which Sheets said was also in line with his expectations.

A majority of economists polled by Reuters now anticipate the Fed will cut interest rates from its current range of 5.25% to 5.50% this September, with a further trim projected later in the year. The ECB is also expected to cut rates in September and December.

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