Stagflation clouds loom! Soaring oil prices and a disappointing employment report trigger a major retreat in Fed rate cut expectations.

As gasoline prices surge and the job market softens, the Federal Reserve's difficulty in boosting the U.S. economy while curbing inflation has sharply increased, prompting investors to significantly reduce their bets on the number of rate cuts this year.

Many had predicted that the Fed would cut interest rates twice before the crucial midterm elections in November. By then, American voters will assess whether the president has appropriately addressed what the public perceives as a 'cost-of-living crisis.' However, expectations for Fed rate cuts cooled rapidly last week.

Traders in the futures market now expect the Fed to cut rates only once or twice this year, with the first reduction not arriving until September. In February, the market had fully priced in expectations for two or three rate cuts starting in July.

Since the United States and Israel attacked Iran, WTI crude oil prices surged 36% last week to over $90 per barrel, marking the largest weekly gain since 1983, and broke through the $100 mark on Monday.

As one of the most visible indicators of inflation, gasoline prices at gas stations have risen by more than 30 cents to reach $3.32, the highest level since the summer of 2024.

Last Friday, data released by the U.S. Bureau of Labor Statistics showed that the world’s largest economy lost 92,000 jobs in February, instantly erasing recent signs of stabilization in the U.S. labor market.

Joe Brusuelas, chief economist at RSM US, warned that the U.S. is currently facing a 'risk of stagflation'—a dilemma where economic growth slows while prices rise. 'All eyes will continue to focus on energy prices and inflation trends,' Joe Brusuelas stated.

He added that if oil prices remain high, and Trump's trade and immigration policies continue to hinder businesses from increasing hiring, the Fed's ability to respond to recent economic shocks will pose a 'real stress test' for rate setters.

Last Friday, markets were more concerned about long-term price increases than the health of the job market. Goldman Sachs warned that if the Strait of Hormuz remains closed, global benchmark Brent crude prices could exceed the 2008 peak of $140 per barrel.

Trump has called on the Federal Reserve to slash short-term borrowing costs from the current range of 3.5% to 3.75% down to a low of 1%.Federal Open Market CommitteeThe Federal Open Market Committee (FOMC) is set to convene in mid-March, with investors widely expecting the Federal Reserve to remain on hold at that time.

Following the conclusion of the voting, the FOMC will also release its updated so-called 'dot plot' forecast, in which officials will outline in detail the number of interest rate cuts they anticipate over the next year and beyond. The combination of a weak employment report and elevated oil prices could intensify existing divisions within the committee over whether to prioritize controlling inflation or safeguarding employment.

Federal Reserve Governor and dovish FOMC member Bowman stated that the weak jobs report confirmed the labor market 'needs some support.' In contrast, other dovish figures, such as San Francisco Fed President Daly, adopted a more cautious tone, remarking at the University of Chicago Booth School of Business U.S. Monetary Policy Forum in New York, 'No one is going to fixate on just one dataset or rely on a single anecdote.'

Some interest rate setters remain optimistic about the data released last week by payroll services firm ADP.

For now, officials may opt to temporarily overlook this oil price shock. Given the U.S.'s status as a net energy exporter, it is unlikely to cause disruptions on the same scale as in Europe.

Dovish FOMC member and Federal Reserve Governor Waller said in an interview on Friday: 'You'll see gas prices spike, which is what American consumers will witness at the pump—staring at rapidly rising meters might leave them somewhat stunned... However, for our future policymaking, this is unlikely to trigger sustained inflation.'

Others have pointed out that, with inflation having exceeded the Federal Reserve's 2% target for five years, the world's most influential central bank may be forced to confront the tangible impacts brought by the conflict in Iran.

Diane Swonk, Chief Economist at KPMG, noted: 'We are one of the few economies still grappling with post-pandemic inflation. Recent data suggests that inflation is accelerating again, and there may be more tariff hikes on the horizon.'

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Editor/Lambor