Wells Fargo Sees Aggressive Fed Rate Cuts As 'Stomach-Turning' Turbulence For Economy Looms

After a trade-induced slowdown bruised the economy in early 2025 and with another dip forecast for this coming fall, Wells Fargo says the Federal Reserve is poised to cut rates aggressively amid deteriorating labor market conditions.In an outlook shared this week, the investment bank’s economic team updated its U.S. outlook and reaffirmed that while a full-blown recession may still be avoided, a period of painful stagnation and elevated inflation lies directly ahead.‘Trade War Impact Is Just Getting Started’The U.S. economy shrank 0.3% in the first quarter, largely due to a massive swing in trade flows. Net exports subtracted 4.8 percentage points from GDP, the largest drag on trade in over five decades.Import volumes surged 41.3% on an annualized basis as businesses rushed to stockpile goods before tariffs kicked in on April 2. That front-loading of demand distorted the early-year data. Yet, “the economy is not out of the woods yet,” the report noted. According to Wells Fargo, after a growth rebound in the second quarter, the economy is expected to contract 1.5% in the third quarter. “We anticipate some stomach-turning turbulence this year, particularly in the third quarter,” the bank said. Wells Fargo indicated that the economy will hit an “air pocket” later this year as consumer and business spending drop off after a rush to buy goods ahead of new tariffs.The effective tariff rate is estimated at 15%, well above the pre-tariff 2.3% average. Wells Fargo is not expecting a return to those lower levels anytime soon—even if some dealmaking reduces headline rates.Jobs: Hiring Slows, Layoffs LoomJob creation is cooling. After averaging 133,000 monthly payroll additions in the first quarter, hiring is expected to nearly stall later this year. The bank expects nonfarm payrolls to slow to an average of 25,000 in the third quarter and then turn negative by 17,000 during the last quarter of the year.Initial jobless claims rose to 241,000 in late April, the second-highest print in six months. Continued claims have been trending up since 2022. Wells Fargo forecasts that the unemployment rate will rise to 4.5% by the end of the year. The Fed Will Step InDespite inflation remaining above target, Wells Fargo expects the Federal Reserve to begin cutting rates as labor market conditions deteriorate. The baseline projection includes a 100 basis point cut in 2025, starting with a 50 basis point reduction in September, followed by two quarter-point moves.The bank forecasts the federal funds rate to end the year at 3.50%, down from the current 4.50% upper bound. The key assumption is that the Fed will "look through" the tariff-driven uptick in inflation as long as longer-term inflation expectations remain anchored.Such a projection is well below current market pricing, which expects about 65 basis points of cumulative easing through December 2025.In 2026, Wells Fargo expects the Fed to hold steady as growth rebounds and inflation settles closer to target. The 10-year Treasury yield is projected to end 2025 at 4.00% and rise modestly to 4.25% by the end of 2026.“The second half of this year could be the most challenging period for the greenback, a period during which the U.S. economy slows to a stall and the Fed eases monetary policy,” Wells Fargo said. The U.S. dollar index, as tracked by the Invesco DB USD Index Bullish Fund ETF UUP, is down 7.5% year-to-date.Economists at the U.S. investment bank expected the dollar to rebound in 2026 as rising fiscal stimulus boosts domestic activity and as the Fed ends its easing phase.Read now: Trump, Starmer Strike US-UK Trade Deal: Steel, Cars, Beef At Center Of Pact Photo: Shutterstock