Morgan Stanley economists offered insights into recent economic data and its implications for potential Federal Reserve interest rate cuts.

While market pricing has shifted in favor of two rate cuts this year, and the July Federal Open Market Committee (FOMC) meeting is now seen as a "plausible live meeting," Morgan Stanley said in a note to clients on Friday.

Accordingly, "the market is still underestimating the number of moves this year." However, the brokerage firm added that more evidence would be required for the Fed to begin cutting rates.

The shift in expectations follows a series of economic reports, including April's jobs numbers and retail sales data, which signaled a transition from previous upside surprises to downside surprises.

Notably, the Consumer Price Index (CPI) data for April did not significantly underperform expectations, but rather aligned with them, providing relief to financial markets.

Morgan Stanley had anticipated this change in trend, expecting disinflation to resume, yet projecting the Federal Reserve to maintain rates until September due to data volatility.

Inflation figures appear to be on a downward trajectory based on April's inflation figures. Core Personal Consumption Expenditures (PCE) inflation, which had spiked to an annualized rate of 4.4% in March from 1.6% in December 2023, is projected to decelerate, with April's core PCE tracking at 0.26% month-over-month compared to 0.32% in March.

Morgan Stanley forecasts that the three-month annualized pace will fall back to 2.7% by June.

While a rate cut in July may be premature, three cuts throughout the year could be appropriate, the economists concluded