Will the Fed raise interest rates next week? Tonight's CPI figures will be the deciding factor.

Tonight's August CPI report will be one of the most market-moving inflation figures in recent years. A difference of just one decimal point could determine whether the Federal Reserve will initiate another rate hike in this cycle next week—and this gamble has now forced economists at top Wall Street firms to be precise to three decimal places.

The money market currently prices in a 70% probability of a 25 basis point rate hike at the September 16 FOMC meeting. Strong non-farm payroll data last week and escalating geopolitical tensions in the Middle East have both fueled hawkish expectations. Fed Governor Waller previously provided the clearest policy response function to date: if August inflation data shows a continued deleveraging process, he tends to keep rates unchanged; if the data is overheated, he will support a rate hike. Fed Chairman Warsh stated at the Jackson Hole conference that policy work is not yet complete unless inflation moves toward the 2% target at a sufficiently rapid pace.

Mainstream Wall Street forecasts are focused on a core CPI increase of around 0.2% month-on-month, but this is precisely the outcome most difficult for the market to price in. According to JPMorgan's market intelligence team, 0.2% (rounded) implies no change, while 0.3% implies a rate hike. Bloomberg's chief U.S. economist, Anna Wong, stated that her team is calculating PCE inflation forecasts with a precision of one-thousandth to determine the policy implications of this "most closely watched CPI report in history." Tonight's data will directly reshape market pricing in the interest rate path for September, October, and even December.

Various institutions predict that core CPI will fall around 0.2%.

Major Wall Street institutions have highly convergent forecasts for August's core CPI, but subtle differences are crucial.

According to JPMorgan Chase's forecast, the core CPI rose 0.21% month-on-month in August, equivalent to an annualized rate of approximately 2.37%, barely maintaining a 2.4% level after rounding. For core PCE, JPMorgan Chase expects a 0.20% month-on-month increase and a 3.2% year-on-year increase. The bank also pointed out that 13 out of the past 17 CPI data releases have been lower than expected, and the current inflation surprise index is in the weakest 10% range in nearly a decade. Therefore, it maintains its forecast of being lower than the market consensus and continues to hold short positions.

Bank of America Securities forecasts that core CPI will rise 0.22% month-on-month and core PCE will rise 0.24%, equivalent to an annualized rate of about 2.9%, with a year-on-year increase expected to reach 3.4%. Bank of America economist Stephen Juneau believes that this result is not enough to reassure the Federal Reserve about the inflation trend and is sufficient to support the FOMC raising interest rates again at its September meeting.

Goldman Sachs forecasts a 0.22% month-on-month increase in core CPI, expecting this to translate into a 0.22% month-on-month increase in core PCE. Goldman Sachs specifically highlighted three key components: used car prices are expected to rise by 0.5%; housing rents (OER) and the rent component are expected to rise moderately by 0.22% and 0.23% respectively; and airfares are expected to surge by 4.0%, reflecting the continued transmission of jet fuel costs.

Citigroup's forecast is more dovish, predicting a 0.18% month-on-month increase in core CPI and a 0.19% increase in core PCE, and believes this result will support the Federal Reserve keeping rates unchanged in September.

Polymarket's forecasting market data shows that the median economist forecast is 2.4% year-over-year, and the market is pricing in a significantly higher probability of falling short of expectations (2.3% or less) than of exceeding expectations (2.5% or more).

Walsh and Waller: Two Signals, One Game

The internal divisions within the Federal Reserve have made the interpretation of this CPI data more complicated.

Chairman Warsh's speech at Jackson Hole was hawkish, explicitly stating that the Fed has more work to do unless core inflation converges significantly toward the 2% target at a sufficient pace. This wording was interpreted by the market as indicating extremely low tolerance for inflation.

Waller's statement was relatively moderate, providing a clear hedge. He stated that he was seeing signs of cooling inflation, with core inflation improving significantly over three months. If the August data continues to show a cooling trend, he supports keeping rates unchanged in September.

His specific benchmark was that if the three-month core inflation rate fell to 2.8% annualized, "that would be acceptable." However, he also maintained his stance of supporting interest rate hikes if the data was overheated. Waller also downplayed the inflationary role of energy prices and tariffs, arguing that wage growth was consistent with the return to the target path, and suggested that core PCE might not be the best indicator of inflation trends, arguing that underlying inflation actually "performs better" than what the core data suggests.

Anshul Sehgal, co-head of FICC at Goldman Sachs, described Walsh and Waller's statements as "two completely different interpretations," arguing that whether this cycle requires interest rate hikes is still uncertain and largely depends on energy price trends and geopolitical developments. His view is that this cycle is unlikely to see more than three rate hikes, and the pricing of a 1-year forward rate at 435 basis points implies about two and a half rate hikes, "which sounds roughly reasonable."

Bond and Interest Rate Markets: 0.25% is the Threshold for Raising Rates and Holding Off

Interest rate traders have turned their attention to the precise decimal point of the core CPI.

Bank of America interest rate strategist Meghan Swiber's scenario analysis shows that if core CPI rises 0.1% month-on-month, the 2-year Treasury yield is expected to fall by 10 to 5 basis points; if it rises 0.2% month-on-month, the fluctuation will be around ±5 basis points; and if it rises 0.3% month-on-month, the yield will rise by 5 to 8 basis points. She specifically pointed out that a weaker-than-expected data would lead to a larger increase than a stronger-than-expected data would lead to a larger decrease—because interest rate hike expectations have been largely priced in, and the market as a whole holds a large number of short positions.

Brian Bingham, a macro trading desk analyst at Goldman Sachs, points out that the Federal Reserve is in a "most contradictory position," potentially having its policy direction determined by the rounding of government data. He also worries that if the data is moderate and the Fed chooses to hold rates steady, the bond market's concerns about a "policy misstep" will far outweigh the damage from raising rates in the event of excessive inflation.

Historical data from Bank of America Securities shows that 90% of the Fed's hawkish surprises occurred when the market had already priced in a scenario of 3 basis points or less two days before the meeting. This means that if the market is overpriced at that time, the Fed not actually raising interest rates could be a bigger surprise.

Foreign Exchange Market: Dollar at a Low Level, Data May Exacerbate Two-Way Volatility

The dollar entered this key report with weakness near a four-month low.

Mike Cahill, head of foreign exchange strategy at Goldman Sachs, believes that if the data is overbought (around 0.25% month-on-month) and widely distributed, the Federal Reserve will find it difficult to avoid raising interest rates, as this would exceed the range defined by Williams and Waller. If the data is underbought (0.18% to 0.20%), the Fed can remain on hold without triggering a negative market reaction. He attributes the recent weakness of the dollar to three factors: the Fed's dovish stance, the Treasury's policy preference for adjusting exchange rates, and the independent strengthening of currencies such as the renminbi, yen, and won.

Bank of America FX strategist Alex Cohen points out that under the market consensus scenario (core CPI 0.2% month-on-month), the dollar will fluctuate in both directions, as the possibility of a September rate hike remains uncertain. If the data is weak, the dollar's decline will be greater than the gains if it is strong, with the DXY falling by at least 0.5% to 0.75%, and expectations for rate hikes in October and December will recede significantly. If the data is strong, the probability of a rate hike will approach 90%, and the dollar will initially rebound. However, if the Fed subsequently fails to follow suit, the dollar's credit damage will deepen further, and the dollar may weaken in tandem with long-term US Treasury bonds.

Regarding the Japanese yen, after USD/JPY recently broke below the 155 range, Goldman Sachs' G10 spot trading desk Luke Molyneux believes that if the data meets expectations and supports holding steady, USD/JPY is likely to continue its decline, targeting the low of around 152.10; if the data is overly positive, it may briefly rebound to the 157.50 to 158.00 range, but the market will still see this as a shorting opportunity.

Equities and risky assets: Upside potential is significant, but volatility will continue.

In the stock market, JPMorgan's market strategy team believes the risk-reward ratio is generally skewed upward.

If the data supports a wait-and-see approach or a "hawkish wait-and-see" stance, technology, momentum, and cyclical sectors are expected to be the main drivers of the rebound. JPMorgan's position tracking data shows that hedge funds have increased their overall exposure for four consecutive trading days in the past week, with the weekly net increase reaching its highest level since the end of June (+1.3 standard deviations). Ample room for further leverage remains, constituting a potential upside catalyst.

However, JPMorgan Chase also pointed out that the market will likely remain volatile before the data release, which is the direct reason why the bank recently adjusted its short-term rating to "tactical neutral." The options market currently implies a daily volatility of approximately 1.0% for contracts expiring on September 11.

The biggest tail risk lies in core inflation being significantly higher than expected. If this happens, the expectations for rate hikes in October and December will be quickly repriced, currently at around 27% and 54% respectively, which will put substantial pressure on the stock market.

A numerical paradox: accurate to three decimal places

Another deeper meaning of this report is that it is an extreme stress test of the "data-dependent" monetary policy itself.

Bloomberg's chief U.S. economist, Anna Wong, wrote that her team has projected core PCE forecasts to three decimal places to determine which side the rate hike decision leans towards. This was cited by FX trader Brent Donnelly, and forms an intriguing contrast with a previous statement by Walsh himself—in his 2025 speech, Walsh criticized "data-dependent" policies as having limited value, arguing that excessive focus on two decimal places in government data reflects "false precision and analytical inertia."

However, as Donnelly pointed out, "we are in that situation now." Tonight's numbers may be the most delicate game between the Fed's policy credibility and market expectations.

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