Fed chair Jerome Powell thinks the only thing worse than stubborn inflation is the central bank loosen up at the wrong time.

In testimony before the Senate Banking Committee, Powell said the Fed is in wait-and-see mode as policymakers continue to monitor price trends. According to him, the central bank needs “more good data” to feel confident.

“Elevated inflation is not the only risk we face,” Powell said. Cutting rates too soon could reignite inflation while “reducing policy restraint too late or too little could unduly weaken economic activity and employment.”

Powell recently acknowledged that the U.S. economy is “getting back on a disinflationary path” after the Fed’s most trusted inflation gauge—the core Personal Consumption Expenditures—dropped to the lowest level since 2020.

The central bank's current undertaking is a careful balancing act, attempting to cool inflation without tipping the economy into a recession.

Will a slowing economy fall into recession?

The Fed’s actions (or lack thereof) have fueled speculation about whether policymakers have inadvertently already pushed the economy down a recessionary path.

Last week, a closely watched indicator of the U.S. service economy posted its biggest monthly drop in four years. Given that services account for more than 77% of U.S. GDP, this is a huge red flag, economists warned.

“This latest data release is consistent with growing evidence of what I have noted in recent weeks [...] the U.S. economy is slowing faster than most expect, including the Federal Reserve,” wrote Queens’ College president Mohamed El-Erian.

Meanwhile, analysts at Capital Economics warned that weakness in the job market has put the U.S. “one step closer to triggering the Sahm Rule,” which signals the start of a recession.

Economists at Citi Research see the writing on the wall and think the Fed will have no choice but to cut interest rates aggressively beginning in September.

Citi analysts led by economist Andrew Hollenhorst believe the Fed will cut rates eight times in a row beginning in September, which would bring the federal funds rate down to 3.5% by July 2025.

Despite Powell’s wait-and-see approach, the central bank is widely expected to start cutting rates in September. According to CME Group’s FedWatch Tool, traders see a more than 73% chance of a rate cut in September.