The U.S. economy is slowing while inflation is picking up—a dangerous combination that could lead to stagflation, experts warn.

According to the Bureau of Economic Analysis, U.S. GDP growth slowed from 3.4% in the fourth quarter to 1.6% in the first three months of 2024.

That’s well short of the 2.5% growth pace economists had projected.

Over the same period, the core personal consumption expenditure index (PCE)—the Fed's preferred inflation gauge—rose from 2% to a strong 3.7%.

Why aren't the Fed's rate hikes working? Jim Iuorio, a futures broker, trader and managing director of TJM Institutional Services, blames Capitol Hill.

“The situation our economy has been put in is confounding. The Fed keeps trying to slow growth and inflation while the federal government does everything it can to spur inflation through maniacal accelerated spending,” Iuorio said.

“Inflation will not go away under the current condition.”

Unfortunately for the Fed, it currently finds itself between a rock and a hard place with no clear direction on where to go.

“Worst possible outcome for the Fed”

The near doubling of PCE is the "worst possible outcome for the Fed," according to The Kobeissi Letter, a global capital markets commentary.

Back in March, the central bank reaffirmed its intention to cut rates there times this year. Now, policymakers may have to backtrack.

“What does the Fed do when inflation is rising, but the economy is weakening? If you cut rates, inflation will skyrocket. If you raise rates, economy crashes,” The Kobeissi Letter said of the Fed’s conundrum.

Other analysts warn the Fed doesn’t even have a "gameplan" anymore, given how far inflation is off the central bank’s 2% target.

“There is no clear inflation framework and no clear set of parameters to assess the stance of policy,” Ed Al-Hussainy, a senior analyst at Columbia Threadneedle Investments, told Reuters.

A growing number of economists are now calling on the Fed to finally admit that it lost control over inflation.

All eyes on the Fed next week

In the meantime, markets are gradually coming to terms with the fact there may be no rate cuts this year.

According to CME Group’s FedWatch Tool, traders have all but ruled out rate cuts before the fall.

Meanwhile, Bloomberg reports that markets are pricing in a 1.5 percentage point cut for 2024. That’s a far cry from the multiple cuts predicted back in December.

The Fed’s next interest rate meeting will conclude on May 1.

Experts predict Powell will adopt a more cautious tone next week, especially after Fed Vice Chair Philip Jefferson's recent remarks on inflation.

Although Jefferson thinks the Fed is making progress, he acknowledged that the “outlook is still quite certain.

“[I]f incoming data suggest that inflation is more persistent than I currently expect it to be, it will be appropriate to hold in place the current restrictive stance of policy for longer,” Jefferson said in a speech earlier this month.

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