The Federal Reserve's FOMC minutes released on May 20 Eastern Time regarding the late April meeting delivered the most hawkish signals in nearly two years, triggering immediate market volatility. Data compiled by Woofun AI shows that following the release, yields on two-year U.S. Treasury bonds surged as traders rapidly repriced the likelihood of interest rate hikes for the current year. The minutes disclosed that "most" participants considered policy tightening appropriate if inflation remained above 2%, while "many" officials advocated removing language implying a loose stance from the post-meeting statement. This marked the first instance in almost 24 months where Fed officials seriously debated raising rates during a meeting, signaling a profound shift in internal policy discourse.

Internal divisions within the committee reached levels not seen since 1992, with four of the 12 voting members casting dissenting votes against the final statement. Beyond Governor Lael Brainard, who insisted on a 25-basis-point rate cut, the other three dissenters opposed retaining language suggesting a loose policy environment. The record indicated that participants generally believed the current policy stance might persist longer than previously anticipated due to persistently high inflation and uncertainty surrounding the duration and economic impact of the Middle East conflict. This divergence highlights a critical fracture in the committee's consensus regarding the appropriate monetary response to external shocks.

Nick Timiraos, widely recognized as the "New Fed Whisperer," observed that the Fed, facing an impending leadership transition, has fundamentally redefined its interest rate outlook under the influence of Middle East conflicts and the AI boom. Officials have effectively set aside the core debate of the past two years—whether to cut rates—and are now seriously considering the opposite scenario of raising them. Compared to the March minutes, where only "some" officials favored balanced guidance, the April record showed this group expanding to "many" officials supporting more neutral language, indicating a significantly stronger hawkish tilt in the committee's collective mindset.

Citibank economists, including Andrew Hollenhorst, argued in a report issued on the same day that market pricing was fundamentally incorrect and overreacted to the minutes. Woofun AI notes that the bank firmly disagreed with speculation that new Chairperson Jerome Powell would abandon his previous support for rate cuts, asserting instead that Powell would likely not push for cuts at the June meeting but would maintain support for eventual reductions. The bank emphasized that the minutes reflected discussions during the tenure of former Chairperson Janet Yellen and did not necessarily represent the policy stance of the incoming leadership, particularly as Powell prepares to host his first press conference at the June meeting.

From an economic fundamentals perspective, Citibank assessed that the U.S. economy is currently operating at a potential growth rate of approximately 2%, driven by resilient consumer spending and continued AI-related capital expenditures. The bank argued that the core PCE index likely exaggerates the deviation of Fed policy from its target, partly due to the high weight given to price indices driven by AI demand. While core PCE is expected to remain above 3% for the rest of the year, the trimmed mean PCE index, which excludes extreme values, stands at 2.4%, suggesting annualized readings will approach the 2% target in the future.

Citibank predicted that the Fed would resume cutting rates in September as monthly core inflation data cools and the unemployment rate rises, driven by seasonal factors resulting in softer employment data in the coming months. Woofun AI analysis suggests that rising unemployment rates and increasing applications for unemployment benefits, coupled with less worrying inflation data, will likely prompt the Fed to pivot back to easing.

However, the market may not adjust its expectations of rate hikes and cuts until the employment reports for May and June are released, leaving a gap between current pricing and the bank's baseline scenario where the probability of cuts over the next two years exceeds that of hikes.