Will the Fed hike rates this week? Wall Street's confidence wanes as rate hike odds surge to 32% in two weeks

As oil prices surge this month and Middle East tensions escalate, an increasing number of Wall Street firms believe the Federal Reserve (Fed) cannot ignore the risk of a rate hike this week. What was once viewed as an almost certain hold in July's rate decision has now become a difficult-to-predict 'tough call'.

Most firms, including Bank of America Global Research and Deutsche Bank, still expect the Fed to hold rates steady this week. However, Fed Chair Powell rarely provides forward policy guidance, and with Gulf conflicts reigniting and pushing up energy prices, uncertainty around the meeting outcome has clearly increased.

Brent crude briefly surpassed $100 per barrel last week, deepening market concerns about inflation re-accelerating. U.S. inflation remains above the Fed's 2% annual target, and soaring oil prices could force policymakers to take more aggressive rate hikes to prevent energy costs from further transmitting into goods and services prices.

Bank of America strategists said last Friday that the oil price surge has made this week's decision unpredictable. Powell faces a difficult choice: if the Fed stands pat, it may raise questions about the central bank's determination and credibility in fighting inflation.

Most major firms still base their forecasts on the Fed holding rates steady throughout the year, though Bank of America and Deutsche Bank are rare exceptions. Bank of America expects the Fed to hike rates three times starting in September, while Deutsche Bank forecasts two hikes.

UBS Global Research strategists said they wouldn't be surprised if the Fed decides to hike this week to demonstrate its commitment to fighting inflation, and Powell's influence on policy discussions could be decisive.

However, Citigroup, long a dovish voice on Fed policy, argues that hiking solely to maintain central bank credibility lacks solid economic justification. Current market-implied inflation expectations have fallen to low levels, suggesting investors aren't particularly worried about inflation staying high long-term.

Still, market bets on a rate hike are rising rapidly. Interest rate futures now indicate traders estimate a roughly 32% chance of a Fed rate hike this week—up sharply from about 10% two weeks ago. This means a hold remains the market's consensus, but oil prices and Middle East developments have made the July meeting anything but certain.