Inflation Remained Tame In April But Fed Rate Cuts Still Appear Months Away At The Earliest
By James Picerno | The Milwaukee Company
Rate cut expectations have been pushed out to no sooner than September
US consumer inflation in April showed few signs of tariff-related pricing pressure
Although current conditions still favor cutting rates, the Fed remains cautious due to uncertainty about tariff-induced inflation.
Investors were bracing for a clear sign of tariff-related pricing pressure in the April consumer inflation report, but consumer prices remained tame in Tuesday’s release. The Consumer Price Index (CPI) ticked down to a 2.3% year-over-year rate, the softest annual increase in over four years. The core reading of CPI (a more reliable measure of the trend) held steady, but the 2.8% increase vs. the year-ago level marks a steady pace at a four-year low.
Comparing the median Fed funds rate to CPI reminds that monetary policy remains tight and arguably overdue for cutting. Both headline and core CPI’s 1-year changes remain well below the central bank’s median 4.33% target rate.
The annual trend still looks encouraging in terms of approaching the Fed’s 2% inflation target, yet US central bankers remain cautious and prefer to delay cuts until there’s more support in the numbers for anticipating that inflation won’t rise due to tariffs in the months ahead.
Speaking on Monday, before the CPI data was released, Fed Governor Adriana Kugler said: “In the near term, higher import costs will raise prices for both consumer goods and inputs to production.”
No surprise, then, that the Fed funds futures market is now estimating that September 18 monetary policy meeting is the earliest date for a rate cut.
TMC Research’s multi-factor Fed funds model continues to estimate that the neutral level for the target rate is still more than a percentage point below the actual median rate. That’s a sign that the Fed continues to keep policy moderately tight, presumably on the view that tariff-related inflation could heat up.
Although the published data opens the door for easing policy, the Fed remains worried that April is still too early to fully measure the effects of tariffs on prices. Last week, Fed Chairman Powell said: "We do not need to be in a hurry, and are well positioned to wait for greater clarity.”
The notion that tariff-related inflation may still be brewing is partly based on the fact that the end game for raising import levies remains elusive. The April 2 “Liberation Day” tariffs that the White House announced are on pause, while the weekend deal between the US and China reached to lower tariffs didn’t offer a final agreement.
Meantime, US levies are still well above the level that prevailed prior to President Trump’s inauguration, according to estimates by the Budget Lab at Yale. “The overall US effective tariff rate has increased sharply to 17.8%, the highest since 1934,” the research shop wrote on Monday.
It's encouraging that several market-based estimates of future inflation have yet to break out of the recent range. One of Fed Governor Chris Waller’s favored measures of implied inflation continues to suggest that expectations haven’t changed much in recent history. The 5-year breakeven inflation rate (nominal 5-year yield less its 5-year counterpart) was 2.35% on May 12 – close to the Fed’s 2% inflation target, and well down from recent levels.
At some point, if the inflation trend holds steady or moves down, the Fed will probably cut rates. The pressure for easing will strengthen if the economy slows, although the numbers to date suggest otherwise. For example, the Dallas Fed’s Weekly Economic Index through May 3 continued to reflect a solid 2.3% four-quarter change in gross domestic product (GDP), which suggests that the Fed can keep rates steady for the near term without fear of derailing growth.
An upward shift in inflation could change the calculus, and perhaps quickly. A possible catalyst: CPI data for May, when data will more fully reflect the influence of tariffs. Meantime, the status quo prevails.