Fed Versus Trump on Tariffs Impact Will Be Put to the Test Soon

Many economists have long believed that former President Donald Trump’s tariff policies would significantly boost inflation in the short term. However, actual price increases have been modest so far, challenging that expectation and creating divisions within the Federal Reserve while giving the White House more confidence in its stance.

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The Federal Reserve has hesitated to reduce interest rates this year, largely due to expectations that inflation would eventually rise. But with inflation staying unexpectedly low, President Trump and his administration have increased pressure on Fed Chair Jerome Powell to cut borrowing costs. In fact, two Fed governors have recently suggested that a rate reduction could be warranted as early as July, publicly differing from Powell’s more cautious approach.

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The next few weeks are pivotal. Investors and policymakers are eyeing two major economic reports — June’s jobs report due on Thursday and the June consumer price index (CPI) data scheduled for release on July 15. These updates are expected to begin showing the real impact of the tariffs. However, any deviation from expectations could shift the timing of possible rate cuts.

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“This situation is difficult because we’re venturing into uncharted territory,” said William English, a former senior Federal Reserve economist who now teaches at Yale. “We don’t have a modern precedent for this kind of trade policy shift, making it challenging to forecast outcomes with much confidence.”

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Inflation data through May has remained subdued, which has prompted Trump to increase his criticism of Powell and the Fed. The president has used particularly sharp language, labeling Powell a “numbskull” and “one of the dumbest and most destructive people in government.”

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Trump administration officials — and even some Republicans in Congress, who typically steer clear of commenting on monetary policy — have joined in. Kevin Hassett, head of the White House National Economic Council, recently said there’s “no reason at all” for the Fed not to cut rates. Seen by some as a potential successor to Powell, Hassett emphasized that just one more month of data could push the Fed to admit that interest rates are too high.

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The Fed now faces a tricky balancing act. If it cuts rates now and inflation begins to rise due to tariffs, it could later be forced to tighten policy more aggressively. On the other hand, maintaining higher rates when inflation remains soft could stifle economic growth and damage the job market.

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Many economists predict that inflation will start rising in the coming months. Powell told Congress last week that the Fed expects to see noticeable price increases reflected in the summer data, as tariffs ripple through the economy. Still, he acknowledged that the impact may be more muted than previously believed, which would influence the Fed’s policy response.

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The Bureau of Labor Statistics is set to release the June inflation data on July 15 — just two weeks before the Fed’s next policy meeting. Meanwhile, two Fed governors appointed by Trump, Christopher Waller and Michelle Bowman, have expressed openness to lowering interest rates in July if the data aligns.

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“I think we’ve got room to bring rates down and see how inflation plays out,” Waller said in a June 20 CNBC interview. “We’ve been on hold for six months and the data has held up.”

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Despite these comments, market participants currently place only about a 20% probability on a rate cut in July, according to futures markets. Most investors are instead betting the Fed will act in September.

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Inflation has remained low, in part because companies have managed to avoid passing along higher costs from tariffs to consumers. Many firms stockpiled goods before tariffs took effect, which has helped delay the inflationary impact, according to Vanguard economist Josh Hirt. His analysis shows that effective tariff rates this year have been lower than Trump’s announced rates due to these early shipments.

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Another complicating factor is determining how the cost of tariffs is distributed — among importers, exporters, manufacturers, retailers, and consumers. Powell noted in testimony that while the importer initially bears the cost, the financial burden is ultimately shared, with at least some passed on to consumers.

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Before the July 15 inflation data, the jobs report due July 3 will offer important insights into the labor market’s health. So far, tariffs have not appeared to significantly affect hiring trends, allowing the Fed to remain patient. But many analysts expect that June’s data might show early signs of strain.

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Economists surveyed by Bloomberg anticipate the June unemployment rate could rise to 4.3%, the highest since 2021. Bowman recently warned that signs of fragility in the job market, along with softening consumer spending, mean the Fed may need to act soon.

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Indeed, new consumer spending data for May showed households were cutting back on travel, dining, and other discretionary items. Economists caution that further price increases in the coming months could further strain consumer budgets.

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Yale’s English added that while the full effects of tariffs remain hard to quantify, the assumption that at least some cost increases will be passed to consumers still feels logical. “I haven’t abandoned the core idea yet,” he said.

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