Bank of America said clients have been asking whether the Federal Reserve could shock markets and raise rates this year. The bank said it’s not ruling it out, but some specific conditions would have to be met.
Investors have adjusted their expectations for where rates could go after Powell’s hawkish remarks at the central bank’s March meeting on Wednesday.
Markets are pricing in a 12% probability that the Fed will raise its benchmark rate, according to the CME FedWatch tool, up from 0% last week.
Bank of America economists still believe Fed rate cuts are more likely than hikes in 2026, especially if the oil shock from the ongoing war in Iran subsides.
They said “sustained but moderate” impacts on the US economy from the ongoing conflict in the Middle East increase the risks of a hike.
They also flagged oil prices, noting that the “sweet spot” for hikes is likely within the $80-100 range for US crude.
Here are the three conditions Bank of America said must be met for the Fed to seriously consider raising rates in 2026.
A stable labor market
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The first condition for a potential Fed rate hike, in Bank of America’s view, is a stable labor market.
“Fed to consider hiking rates, it needs to be confident first and foremost that the labor market is holding up,” they wrote.
Bank of America said that the unemployment rate needs to stay below 4.5%. The most recent jobs report showed unemployment ticked up to 4.4% in February. The US economy also recorded a surprise job loss during the month.
Further rise in inflation
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The bank said the Fed would need to see that the war in Iran is translating into higher core inflation, affecting more than just energy prices, before considering rate hikes.
They explained that this could happen through higher energy prices raising input costs across the economy, a slow but sticky input for inflation.
Another possibility is that supply chain disruptions from the conflict could cause price spikes unrelated to oil. Fertilizer and helium supply shocks, which could raise food prices and costs in the tech and healthcare sectors, are examples of this scenario.
The analysts said that the Fed may be able to justify overlooking inflation if it can be tied to tariffs, which they consider more transitory.
Powell
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The final condition for the Fed to consider raising rates this year is for Powell to still be Chairman of the centra bank.
Powell will preside over one more FOMC meeting before his term expires in May. Trump’s nominee, Kevin Warsh, will need to be confirmed by the Senate before assuming the role ahead of the June meeting.
But there are risks that Warsh’s confirmation will be delayed, with Senator Thom Tillis of North Carolina stating that he won’t confirm Warsh until the Trump administration’s legal investigation into Powell is concluded.
Bank of America considers Powell a “moderate dove,” who “will prioritize the labor market over inflation if risks to the two are roughly balanced.”
Comparatively, they think the bar for a rate hike will be demonstrably higher with Warsh as chair.
Powell said he will stay on as interim chair if a successor hasn’t been confirmed by then, and has also indicated he’ll remain a governor while the investigation continues.
