The U.S. May CPI may struggle to conceal the rising trend of inflation. Is there no hope for the Federal Reserve to cut interest rates this year?

According to the Zhitong Finance APP, the U.S. May CPI data report, which will be released on Wednesday evening Beijing time, may further support optimistic expectations for the Federal Reserve's interest rate cuts. However, investors should not be too complacent. A close examination of key market signals reveals that U.S. inflation is likely to have bottomed out and is beginning to trend upward. Based on market pricing, it is expected that by the second half of 2025, the year-on-year growth rate of U.S. CPI will rise above 3%. The good news is that this is better than the market initially expected after the tariff announcement on Liberation Day, April 2, when CPI pricing nearly rose to 4%. However, based on this expectation, the market should not expect the Federal Reserve to cut interest rates in the short term.

May Inflation Rate May Slightly Rise

If market expectations are accurate, analysts predict that the inflation rate in May will rise from 2.3% in April to 2.5%, which may just be the beginning of rising inflation rates. Additionally, core CPI is expected to rebound from 2.8% in April to 2.9% in May, with the month-on-month growth rate of core CPI accelerating from 0.2% to 0.3%, while the overall CPI month-on-month growth rate remains unchanged at 0.2%.

CPI swap contract pricing shows different expectations, with an anticipated month-on-month increase of 0.3% for overall CPI and a year-on-year increase of 2.4%, which may be lower than market expectations. Meanwhile, the U.S. financial trading and prediction market platform Kalshi expects CPI to rise by 0.2% month-on-month and 2.4% year-on-year, with core CPI rising by 0.3% month-on-month and 2.9% year-on-year.

This seems to indicate that the 2.3% reading of the April CPI will be a recent low, and we should see it begin to rebound. More importantly, based on market pricing, this index is expected to rise to about 3.2% by September.

Return to Trend

Essentially, CPI will return to its trend growth level, which has been the case since June 2022. At that time, its growth path shifted from the extremely high growth levels that began in the summer of 2020 to the current level. Currently, the annualized growth rate is about 3%, a figure that has remained relatively stable over the past period.

The more important question is whether tariffs will have a greater impact and change the stable trend of inflation that seems to have been presented over the past three years. This has already been reflected in the price payment index from regional Federal Reserve surveys, as well as in the ISM services and manufacturing reports. Data indicates that the year-on-year changes in the CPI often lag behind these price payment indices by about six months. Therefore, if the price payment index begins to rise from January, it may not be until the data in June that we start to see this information reflected in the CPI report.

This essentially represents the pricing considerations made by the swap market when considering expected inflation rates. The market believes that the price increases observed in this survey data will ultimately be reflected in inflation reports such as the CPI and PPI.

Interest Rate Cut Issue

If inflation is expected to rise to 3.2%, it will be difficult for the Federal Reserve to cut interest rates in the short term, as the current federal funds rate is 4.3%, and the inflation rate is 3.2%, resulting in a real federal funds rate of about 1.1%. This aligns with the neutral interest rate level as perceived by the Federal Reserve based on its March economic forecast summary. If the inflation rate in the coming year is below the market expectation of 3.2%, then the Federal Reserve could ease its policy rate. If the CPI rises more quickly, the Federal Reserve may wait for a while to see if this trend continues.

This week's CPI report is expected to be relatively stable, and may even come in below analysts' expectations. As a result, experts may cheer that tariffs will not trigger inflation, and calls for interest rate cuts will become increasingly strong. However, based on market expectations and the index of actual payment prices, they may be wrong, and over time, hard data may also prove them incorrect. Currently, according to the CME FedWatch Tool, the market generally expects two interest rate cuts this year.