Will rising inflation expectations force the Federal Reserve to accelerate tightening?

After experiencing the most severe inflation shock in decades, the American public is once again preparing for rising prices.

According to the consumer survey data from the University of Michigan on the 21st, recent inflation expectations among American consumers for the next 12 months have risen to the highest level in a year. Expectations for longer-term inflation also saw the largest monthly increase since 2021 in February.

The policies of the Trump administration in areas such as trade, immigration, and taxation, particularly tariff policies, have heightened public concerns about rising prices. The New York Times reported on the 25th, citing economists' views that Trump's policies could drive up prices.

If inflation expectations continue to rise, the Federal Reserve may be forced to adopt more aggressive tightening policies, including accelerating interest rate hikes or delaying rate cuts. John Roberts of Evercore ISI stated, if inflation expectations do not improve, the Federal Reserve may completely abandon rate cuts this year.

Rising Inflation Expectations: Multiple Indicators Sound the Alarm

On the 25th, The New York Times reported that American consumers' inflation expectations for the next 12 months have risen to the highest level in over a year, partly due to the continuous increase in egg and energy-related spending prices, as well as concerns about the impact of tariffs.

What worries economists even more is that consumers' expectations for longer-term inflation also saw the largest monthly increase since 2021 in February, and this concern is widespread across various age groups and income levels. Additionally, the Conference Board's survey in February also showed a significant decline in consumer confidence and rising inflation expectations.

The policies of the Trump administration in areas such as trade, immigration, and taxation, particularly tariff policies, have heightened public concerns about rising prices. The New York Times cited economists' views that Trump's policies could drive up prices.

Economists are most concerned about the "de-anchoring" of inflation expectations, meaning that the public is losing confidence in the return of inflation to the 2% target. Currently, this risk seems more pronounced than it was a few months ago. Former Federal Reserve Vice Chairman Richard Clarida stated:

“If I were working at the Federal Reserve, I wouldn’t take it for granted or be complacent.”

The Federal Reserve's Dilemma: Accelerated Tightening?

The rise in inflation expectations poses a significant challenge for the Federal Reserve.

So far, Federal Reserve officials have downplayed concerns about inflation expectations. Chicago Fed President Austan Goolsbee stated that the latest survey from the University of Michigan shows “data that is not very good,” but this only reflects one month of data. He believes that at least two to three months of data are needed to be significant. St. Louis Fed President Alberto Musalem also emphasized that inflation expectations are under control He described the data from the University of Michigan as "a slightly rising indicator among various metrics."

Nevertheless, the Federal Reserve has currently paused further interest rate cuts. Officials not only want to see more evidence of inflation retreating but also indicated that a robust economy gives them time to observe how Trump's plans will affect consumer prices, the labor market, and the broader trajectory of economic growth.

Some, like Federal Reserve Governor Christopher J. Waller, believe the central bank can "ignore" the economic impact of policies such as tariffs. However, former Chicago Fed President Charles Evans thinks this could be a risky strategy, especially considering the inflation surge caused by economic shocks after 2020.

Evans stated that seeing inflation expectations rise makes him "a bit nervous," particularly as he worries that businesses may be more inclined than in the past to pass higher prices onto consumers. For these reasons, he expects the Federal Reserve to remain "cautious" regarding further interest rate cuts this year.

If inflation expectations continue to rise, the Federal Reserve may be forced to adopt more aggressive tightening policies, including accelerating the pace of interest rate hikes or delaying cuts. John Roberts from Evercore ISI stated that if inflation expectations do not improve, the Federal Reserve may completely abandon rate cuts this year.