Tariff inflation appears for the first time! Analysts: The Federal Reserve's policy path may change rapidly

According to the Zhitong Finance APP, the economic data released this week from the United States shows that tariff policies are beginning to manifest in prices, marking the first time that signals of tariff-induced inflation have been captured in official data. Although the bond market reacted mildly, analysts pointed out that if inflation continues to rise, market trends and policy paths could change rapidly.

The Consumer Price Index (CPI) report for June released on Tuesday indicated that tariffs are driving up prices for certain goods. The overall CPI year-on-year growth rate rose from 2.4% in May to 2.7% in June, triggering a brief sell-off in the bond market. However, the market stabilized immediately after the Producer Price Index (PPI) for June, which showed zero growth, was released on Wednesday.

"The Federal Reserve is likely to view this as transitory inflation," said John Briggs, head of Americas interest rate strategy at Natixis. Economists have long anticipated that tariffs would bring some price pressure, with the key question being: "How long will inflation last? How high will it go?"

For the bond market, the degree and duration of inflation triggered by tariffs are among the core factors determining the direction of interest rates this year. This is also the focal point of the policy divergence between President Trump and Federal Reserve Chairman Powell.

Trump has repeatedly urged Powell to cut interest rates significantly to alleviate the burden of government debt interest. However, Powell insists that it is unwise to hastily lower rates without a clear assessment of the comprehensive impact of tariffs on inflation.

Currently, Trump has postponed the effective date of several tariffs to August 1, and the market generally expects further delays to be possible. Briggs stated, "Whenever Trump announces a delay in tariffs, the risk asset market cheers, but for the Federal Reserve, it means that uncertainty is prolonged."

In June, consumer goods prices, especially those containing a large number of imported parts, rose at an accelerated pace. Excluding automobiles, core consumer goods prices increased by 0.6% month-on-month, marking the largest monthly increase since 2022. Among them, household goods rose by 1%, while home textile items such as curtains and carpets surged by 4.2%, and appliances increased by 1.9%. Clothing prices rose by 0.4%, with men's shirts and sweaters seeing monthly increases exceeding 4%. Excluding energy, service prices rose by 0.3%, although some items, such as airfares, experienced declines.

Pacific Investment Management Company (PIMCO) noted in its report that the Federal Reserve may view these CPI data as support for its cautious stance. "The rebound in goods inflation reflects tariff pressures, while deflation in the service sector continues, which will leave room for rate cuts in September and beyond."

Regarding wholesale inflation, the June PPI showed zero growth month-on-month, while May's data was revised to an increase of 0.3%. Despite overall stability, some tariff-related goods still showed signs of price increases.

Bank of America economists expect the June Personal Consumption Expenditures (PCE) price index (the inflation measure preferred by the Federal Reserve) to reach 2.8%, with a potential rise to 3% in July. This could diminish the likelihood of a rate cut by the Federal Reserve in September. "If the PCE really rises to 3%, we believe the chances of a rate cut in September will be significantly reduced."

PIMCO senior investment manager Mike Cudzil stated that the bond market currently views the inflation triggered by tariffs more as a "phase adjustment" that will be digested within a few months, after which inflation is expected to return to near the Federal Reserve's target He pointed out that many companies stocked up in advance before the tariffs officially took effect, and the market is currently observing whether prices will continue to rise after this inventory is digested.

"We expect prices to continue to rise, but the extent may not be as high as initially imagined," he said, noting that some tariff costs may have been absorbed by suppliers and companies, and not fully passed on to consumers.

"The bond market is signaling that inflation will rise this year, but it will not get out of control," Cudzil stated, adding that the rise in inflation will be a "one-time shock" and will not persist in the coming years, as evidenced by the trends in Treasury Inflation-Protected Securities (TIPS) and other inflation swap markets.

Despite the market being stirred by tariff-related news, Cudzil noted that the U.S. Treasury market has remained stable overall in the past two to three months. "The yield on the 10-year Treasury bond has basically fluctuated within a narrow range of 15 basis points."

He also mentioned that the current yield on the 10-year U.S. Treasury bond is about 4.45%, which is attractive. "You can choose to hold it and earn interest income. If the economy slows down and the Federal Reserve cuts interest rates, those holding bonds may reap double-digit returns."

Currently, U.S. Treasury yields remain near key levels, with the 10-year close to 4.5% and the 30-year close to 5%. Briggs from Natixis stated, "We have passed the inflation data from June, and yields have held steady, showing a certain level of resilience."