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Trump’s Tariff Plans Could Trigger Higher U.S. Interest Rates, Warns IIF Chief

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Proposed tariffs by U.S. presidential candidate Donald Trump could lead to higher interest rates and disrupt the current trend of disinflation, according to Tim Adams, President and CEO of the Institute of International Finance (IIF). In an interview with CNBC on Tuesday, Adams noted that extreme tariffs would likely increase inflation, leading to a corresponding rise in interest rates.

“The assumption is you’ll have higher inflation, higher interest rates than you would have in the absence of those tariffs,” Adams explained. The potential economic impact depends on the nature and duration of retaliation from trading partners, but Adams suggested tariffs would hinder progress on reducing inflation.

Trump has made tariffs a central part of his economic policy, proposing a 20% tariff on all imports and a 60% tariff on Chinese goods. Additionally, he suggested a 100% tariff on cars crossing the U.S.-Mexico border and similar penalties for countries moving away from using the U.S. dollar.

Defending his plan, Trump argued in a recent interview with Bloomberg that high tariffs would compel companies to relocate their manufacturing to the U.S., allowing them to avoid the taxes. Trump has also dismissed concerns that his proposed tariffs would fuel inflation, describing them as part of a protective “ring around the country.”

Despite Trump’s confidence, economists and analysts warn that such broad tariffs, along with restrictions on immigration, would likely put upward pressure on inflation. While some short-term impacts could be absorbed, the long-term consequences could slow efforts to curb rising prices.

Inflation and Interest Rates

In recent months, inflation in the U.S. has fallen to 2.4% as of September, down from a pandemic-era peak of 9% in June 2022. The Federal Reserve has begun cutting interest rates, reducing them by half a percentage point in September. However, concerns about future disinflation remain, particularly if Trump’s tariffs are enacted.

The timing of these proposals coincides with rising global trade fragmentation. For example, the European Union recently approved higher tariffs on China-made electric vehicles, accusing Chinese manufacturers of benefiting from unfair subsidies.

Adams also pointed out that both Trump and his Democratic opponent, Vice President Kamala Harris, are running on platforms of change. While Trump’s proposals focus on isolationism and protectionism, Harris is expected to emphasize global engagement and cooperation with international institutions.

Why Inflation May Seem to Be Easing but Remains a Significant Problem

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Although the Federal Reserve appears to be closing in on its inflation target, the ongoing high cost of goods and services continues to strain the U.S. economy. While recent data shows inflation slowing, the effects of price increases are still evident, causing challenges for individuals, businesses, and policymakers.

Some economists, such as those at Goldman Sachs, predict that upcoming reports may indicate the inflation rate approaching the Fed’s 2% target. However, inflation is a complex issue, not easily encapsulated by a single metric. By some measures, inflation remains uncomfortably high for many Americans and even some Fed officials. San Francisco Fed President Mary Daly recently acknowledged the progress in lowering inflation but warned against complacency, emphasizing that vigilance is still necessary.

Inflation is far from over. Daly’s anecdote about a local resident asking her if the Fed had “declared victory” highlights the public’s concern. The central bank’s recent decision to cut interest rates was aimed at adjusting policy in response to inflation, which has come down from its 2022 peak. Yet, many Americans remain skeptical, as high prices linger in various sectors.

There are two ways to assess inflation: the 12-month inflation rate, which receives most of the attention, and the cumulative impact that inflation has had over the past three years. The Consumer Price Index (CPI), one of the most widely followed indicators, has shown a dramatic improvement, with inflation at 2.4% in September, down from a peak of 9.1% in June 2022. However, other indicators show a less promising picture. For example, the Fed’s preferred measure, the Personal Consumption Expenditures (PCE) price index, is still slightly above the 2% target, according to projections.

Inflation first surpassed the Fed’s 2% goal in March 2021 and was initially considered a “transitory” phenomenon linked to pandemic-related disruptions. Yet, over the past two years, prices have skyrocketed across many sectors. Since the start of the inflation surge, the all-items CPI has risen 18.8%, food prices have jumped 22%, and the cost of everyday necessities like eggs and gasoline have climbed sharply. Housing prices, too, have surged, with the median home price increasing 16% since early 2021.

Furthermore, “sticky” prices—those less likely to change frequently, such as rents, insurance, and medical costs—are still rising at a 4% rate, even as more flexible items like food and gas show signs of easing. This divergence between different inflation measures highlights the complexity of the issue.

Core inflation, which excludes food and energy, continues to be a concern as well. In September, core CPI inflation stood at 3.3%, while the core PCE index was 2.7% in August. These figures suggest that despite some improvement, underlying inflation pressures remain.

Consumer spending has remained strong despite high prices. In the second quarter of 2024, consumer spending reached nearly $20 trillion on an annualized basis, though the pace of spending is beginning to slow. Borrowing has also increased significantly as households have taken on more debt to cope with rising costs. Household debt rose 19% since early 2021, with delinquencies on the rise, though still below historical averages.

Small businesses are also feeling the strain. Many have turned to credit cards to manage cash flow, with small business credit card balances increasing by more than 20% compared to pre-pandemic levels. Inflation remains the top concern for many business owners, as seen in surveys conducted by organizations like the National Federation of Independent Business.

As the Fed prepares for its next policy meeting in November, it faces a difficult choice. While interest rates have been reduced, financial markets are reacting unpredictably, with bond yields rising and mortgage rates climbing despite the Fed’s easing efforts. Some economists argue that the Fed should hold off on further rate cuts until it can better assess the current inflationary environment.

In the end, the public remains uncertain about whether the Fed has truly tamed inflation. As Daly noted, while progress is being made, the journey toward stabilizing prices and achieving lasting economic relief is far from over.

 

10-Year Treasury Yield Dips Slightly as Traders Weigh Fed Officials’ Comments

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The yield on the 10-year U.S. Treasury saw a slight dip early Wednesday as bond traders processed recent remarks from Federal Reserve officials regarding the future of interest rates. As of 2:15 a.m. ET, the yield on the 10-year Treasury had fallen by over 1 basis point to 4.021%, while the 2-year Treasury yield was also down, dropping 1 basis point to 3.941%. Yields and bond prices move inversely, with one basis point equaling 0.01%.

The bond market reopened Tuesday following the Columbus Day holiday, and traders have since been grappling with mixed signals from various Fed representatives about the trajectory of monetary policy.

Mixed Messages from the Federal Reserve

On Monday, Minneapolis Fed President Neel Kashkari hinted that any future interest rate cuts would likely be “modest,” stressing that decisions will continue to hinge on incoming economic data. In a similar vein, Fed Governor Christopher Waller urged caution in reducing rates too soon, indicating that the economy is still showing signs of resilience.

However, on Tuesday, San Francisco Fed President Mary Daly took a different stance, suggesting that the Fed still has room to lower interest rates further. Daly highlighted that rates are still far from their “neutral” level, where the economy can stabilize without stimulating or restricting growth. She noted that this neutral rate could be higher than in previous economic cycles, implying that the process of adjusting rates downward may take longer than expected.

“We’re a long way from where it’s likely to settle,” Daly remarked, emphasizing the challenges in determining the speed at which rates will approach their neutral level. This uncertainty has led traders to cautiously adjust their positions in the bond market.

A Pause in Fed Activity

No Federal Reserve officials are scheduled to speak on Wednesday, and there are no major economic data releases expected. This temporary pause in public remarks allows bond traders to further digest recent statements and assess the broader economic landscape, particularly as they wait for future indicators that could offer more clarity on the Fed’s path forward.