Will Tariffs Trigger Higher US Inflation?

Since President Trump initiated a tariff war during his second term, economists have warned that tariffs would push up US inflation. The June Consumer Price Index (CPI) report, released on Tuesday, may validate these predictions.

After four months of overestimating CPI readings, forecasters now anticipate an acceleration in inflation for June. Price increases in tariff-affected categories like furniture, toys, recreational goods, and automobiles are expected to end the period of sustained moderate inflation.

According to economists' consensus forecasts, both the overall CPI and core CPI are expected to increase by 0.3% month-over-month. Year-over-year, the overall CPI is projected to rise by 2.7% and the core CPI by 3%, well above the Federal Reserve's target level.

Tariffs: The First Real Sign of Rising Inflation?

Federal Reserve officials and private sector forecasters widely believe that inflation will rebound this summer as companies begin to pass on tariff costs to consumers. While many companies initially protected consumers through advance stocking and absorbing some costs through reduced profit margins, some now have no other option.

Chris Hodge, chief US economist at Natixis CIB Americas, said: "The June CPI is the first indicator to show that tariffs are really starting to have a noticeable impact."

Hodge added, "I'm focusing on cars and apparel, where price increases in those two sectors were very low last month, which is inconsistent with market expectations. These two sectors are very sensitive to tariff increases."

Gregory Daco, chief economist at EY-Parthenon, expects tariffs to contribute one-third of the monthly increase in the June CPI, with an even greater impact later this summer. "Over time, the impact of tariffs will intensify," he says.

Escalating Trade War and Inflationary Impact

Last week, Trump escalated the trade war by announcing higher tariffs on copper and goods from Canada, Brazil, and other countries. Some punitive tariffs that were scheduled to take effect in July have been postponed to August, and Trump has announced that the deadline will not be extended, further increasing the risk of inflation.

Scott Anderson, chief US economist at BMO Capital Markets, says, "The president is clearly imposing a new round of higher tariffs on many countries, and the risk of inflation caused by tariffs is far from over."

A May survey by the Federal Reserve Bank of New York showed that about three-quarters of companies are offsetting rising costs caused by tariffs by raising prices. Other surveys also show that companies tend to raise prices, and companies have expressed this clearly: Toyota plans to raise prices this month, while retailers like Nike are targeting price increases in the fall.

Monitoring Service Inflation

In addition to goods, economists and policymakers will closely monitor service inflation. Some analysts believe that moderate categories in recent months (such as airline tickets and hotels) may show resilience in June, pushing the overall CPI higher.

Goldman Sachs, in a report, stated that "Our estimates reflect a significant acceleration in inflation in most core commodity categories, but a limited impact on core service inflation, at least in the short term."

Is the Federal Reserve Being Overly Cautious?

The Federal Reserve has defended its decision to keep interest rates unchanged this year, arguing that it expects tariffs to push up inflation, but this has not been confirmed so far. If the June CPI again shows moderate performance, the Federal Reserve will almost certainly face stronger criticism from Trump, who has repeatedly called for interest rate cuts and directly criticized Chairman Powell.

Wells Fargo believes that even if the data shows that inflation is starting to rise again, it will not be enough to alarm Federal Reserve officials at this stage. The institution adds, "With a weakening labor market and further declines in service inflation, the rise in core inflation caused by tariffs may be more of a temporary shock than a trend."

Flexibility in Trade Policy

Despite Trump's escalation of tariff threats, Samuel Tombs, chief US economist at Bloomberg Macroeconomics, points out that Trump has compromised in the past and may do so in the future.

Tombs says, "This does not mean that there will be no short-term fluctuations - there may be weeks when tariffs are at very high levels. But companies and supply chains are evolving and have begun to adapt to this volatility."

Divergence of Views within the Federal Reserve

Minutes from the Federal Reserve's June monetary policy meeting, released last week, showed that officials were divided on "how tariffs will affect inflation and the path of monetary policy." Powell was cautious about an inflation rebound.

Powell said at a conference in Portugal on July 1: "We expect to see some higher readings this summer," adding that policymakers are prepared to accept results "that may be higher or lower than expected, or sooner or later."

However, some officials - such as Trump-appointed governors Waller and Bowman - have indicated that they may support an interest rate cut in July if inflation remains moderate. Others believe that action is more likely later this year.

Waller said at an event in Dallas last Thursday: "I think current interest rates are too high, and we can consider cutting them in July. My view may be in the minority, but I have clearly explained the reasons from an economic point of view, and this has nothing to do with politics."

Market Expectations for Monetary Policy

However, money markets have not given much importance to the possibility of this happening, with current pricing showing that the probability of the Federal Reserve cutting interest rates in July is less than 5%. Markets currently expect the Federal Reserve to cut interest rates by 50 basis points before the end of the year, with the first cut expected in September. However, it remains to be seen whether these expectations will hold up after the release of US CPI data.

In fact, expectations of the Federal Reserve postponing rate hikes have increased due to the new tariffs imposed by Trump and the resilience of the US labor market. The Fed Watch Tool from CME Group shows that the probability of the Federal Reserve cutting interest rates in September is currently around 60%, down from 65% at the beginning of the month.

Upside Potential for Gold Prices Remains

While awaiting the US inflation report for June, traders began to take profits after gold reached a three-week high of $3,375.

Higher-than-expected US CPI monthly or annual rates may reinforce the Federal Reserve's patience, reducing expectations that the Federal Reserve will cut interest rates twice this year. This scenario may help the dollar continue its recovery, putting pressure on non-yielding gold. If the data is lower than expected, gold prices may receive new support.

Fxstreet analysts point out that after rebounding from the support level of $3,339 on the 21-day moving average, gold prices still have the potential to retest the 23.6% Fibonacci retracement level of $3,377 from the record high in April. The 14-day Relative Strength Index (RSI) is rising slightly above the center line, currently approaching 54, indicating that there is still potential for increase.

If gold can surpass the 23.6% Fibonacci level at $3,377 on the daily chart, it will open a new round of gains, moving towards the $3,400 barrier and a static resistance at $3,440.

On the other hand, if sellers enter at higher prices, gold prices may fall back, returning to the 21-day moving average at $3,339. If it continues to fall below this level, the support level of $3,325 on the 50-day moving average will be exposed, and once broken, the 38.2% Fibonacci retracement level of $3,297 will come back into focus.