The Fed is concerned that inflation may worsen in the coming time due to tariffs.
U.S. Federal Reserve policymakers signal that they will maintain interest rates in the near future. They want to see evidence of inflation gradually declining towards the 2% target or a significant weakening in the labor market.
However, to date, the data has not satisfied either of the two scenarios. Analysts believe that the impact of President Donald Trump's tariff policy will continue to appear in the future. But it remains unclear how these tariff plans will result and affect prices as well as employment.
Cleveland Fed President Beth Hammack remarked that there are currently too many scenarios that could occur, including the possibility that inflation remains high while economic growth slows. At that point, the Fed may have to choose between two goals: controlling inflation or supporting growth.
Nevertheless, investors continue to bet that the U.S. economy will weaken, forcing the Fed to cut interest rates starting in June. They predict that rates will decrease by a total of 1 percentage point by the end of this year. This prediction was reinforced after the latest data showed that U.S. GDP contracted in the first quarter and the Fed's preferred inflation index did not rise in March.
However, experts warn that inflation remains high and could increase further in the short term. This is because many retailers are raising prices to offset the rising import costs due to tariffs. The core personal consumption expenditures (PCE) index (excluding food and energy prices) decreased from 3% in February to 2.6% in February.
Long-term inflation expectations remain stable, but some Fed officials are concerned that short-term inflation expectations are rising sharply, which could bring price pressures back.
"The Fed is in a difficult position. Inflation is still above target. Inflation expectations are gradually getting out of control. And we are still waiting to see the impact of the tariffs. Currently, the Fed is in a state of inaction," said chief economist Tom Porcelli at PGIM Fixed Income.
The U.S. stock market fell sharply in trading on April 30, after the Commerce Department announced that U.S. GDP unexpectedly decreased for the first time in three years. At the same time, the Fed is monitoring the possibility of an economic slowdown due to tariffs, which raises the risk of layoffs. This factor could force them to act if inflation does not persist too long.
In the past first quarter, U.S. GDP decreased by 0.3%. The main reason was that American businesses rushed to import goods before Mr. Trump's tariffs took effect. The report also showed that personal consumption slowed from a 4% increase to 1.8%, while business investment continued to grow strongly.
The increased demand in the first quarter could lead to a noticeable drop in demand in the second quarter. This will be a more concerning phase in the economic slowdown process.
Experts at Pantheon Macro warn: "If current tax levels are maintained, it is likely that the U.S. economy will enter a recession phase. And if the import tariffs announced by Mr. Trump on April 2 actually take effect in July, the risk of recession will increase significantly." This week, the Trump administration eased some tariffs on the auto industry while stating that trade negotiations are still ongoing.
This weekend, the Fed will have new data from the April employment report. The market predicts that hiring rates will slow down, but the unemployment rate remains unchanged at 4.2%.
The Fed is expected to keep the policy interest rate in the range of 4.25% - 4.50% after a two-day policy meeting next week. The futures market predicts that the Fed may start cutting interest rates from June, with a total of 4 rate cuts of 0.25 percentage points. Last year, the Fed cut rates 3 times, totaling 100 basis points.
According to Reuters
