On the one hand, Tuesday’s consumer price index report is likely to enrage the president because a slight uptick in CPI inflation gives the Federal Reserve all the more reason to hold on until its September meeting to cut the federal funds rate. But on the other hand, President Donald Trump received yet another month of data indicating that his near-universal tariffs still have not trickled down into increased prices borne by consumers.
CPI inflation in June rose 0.3%, in line with expectations, and the Fed’s preferred measure of core CPI, which excludes the volatile categories of food and energy, actually came in below expectations at 0.23%. On an annual basis, headline CPI increased from 2.35% to 2.67%, while core CPI rose from 2.77% to 2.91%. But the real trouble is that core CPI on a three-month annualized basis fell to 1.7% in May, below the Fed’s 2% maximum inflation target, but went back up to 2.4% in June. No matter how you splice the data, inflation rose in June after months of heading in the correct direction, and not in a way the Fed is likely to ignore.
But the good news for Trump is that his tariffs are not likely to blame.
The Yale Budget Lab, which has continued to track Trump’s frenetic tariff policies, estimates that consumers face an average effective tariff rate on imports of 20%, the highest level in about a decade. Given the disparate impact of the tariffs on various industries, the Budget Lab estimates that apparel prices should see a 40% increase in the short run, while computer commodities and car prices should face a 20% increase.
To be clear, the “short run” means in the next couple of years, before consumers and producers adapt purchasing patterns to the tariffs, so we wouldn’t expect the short-run commodity price effects to show up in full force just three months after Liberation Day.
But Trump will be happy to see that the supposed spending categories that should reflect the greatest inflation increase remain mostly spared. Apparel prices did tick up 0.4% in June after falling 0.4% in May, but new car prices fell 0.3% two months in a row. Used car prices are falling twice as fast, and IT commodities only rose 0.1% last month.
So, where did all the excess inflation come from, if not goods and, by extension, Trump’s tariffs?
One culprit was the price of energy, which rose nearly 1% in the last month alone. The White House will correctly point to the price hike as continued evidence to expand domestic drilling and fracking.
But as usual, the main factor to blame is housing.
The metric used by the Bureau of Labor Statistics to measure housing prices is not perfect. The largest portion of the shelter index, owners’ equivalent rent of residences, is the estimated rental price the owners of a home would list if they were to rent out the home in which they live, far from a precise measure, and critics argue that it’s a lagging indicator. Indeed, some industry data indicate that home price inflation in the actual real estate market is slowing. ICE, a mortgage technology firm, said annual home price inflation slowed from 1.6% in May to 1.3% in June, with close to a third of the top 100 largest markets seeing deflation rates of at least 1%.
But a modest deceleration in housing prices for owners has only barely begun to trickle down to the painful prices borne by renters for years. The inflation rate of Zillow’s Observed Rent Index, a real aggregation of asking rents on the markets, peaked at 16% when CPI inflation peaked at 9%, and May was the first time in a year that rental inflation looked to be trending down to 3%.
Exorbitant tariffs and a wholesale deportation of nonviolent illegal immigrants who staff 14% of the construction industry could put upward pressure on housing prices. But for over a decade now, disproportionately Democratic zoning and environmental restrictions have manufactured the housing supply policy, not any Trump administration actions in either this term or his last.
In the end, Trump’s real frustration is not that Jerome Powell will not solve his problems but that the Fed chairman cannot solve the two real ones: the housing shortage created by blue-polity bureaucrats or the actual interest rates borne by borrowers.
The federal funds rate is simply the overnight lending rate that banks charge other financial institutions. It has indeed historically trended alongside U.S. Treasurys, meaning that when the Fed has cut the federal funds rate, the 10-year Treasury has usually followed this Fed-set rate in tandem, which in turn was often followed by the 30-year fixed mortgage rate. Thus, investors have historically expected the interest rates owed by banks, the federal government, and new homebuyers to move in similar trajectories.
But not always, and in particular, not anymore.
From September to December of last year, the Fed cut the federal funds rate by 100 basis points. In the same time, the 10-year Treasury yield and the 30-year fixed actually rose by 100 basis points. While the yields of short-term Treasury bills with maturities of 52 weeks or fewer did precipitously fall, the total share of the federal government’s total public debt outstanding composed of short-term Treasury bills actually fell. The average interest rate on the total marketable national debt fell by a measly 6 basis points during the Fed’s 100-basis point cut to the federal funds rate, and the former has risen ever since.
INFLATION TICKED UP TO 2.7% IN JUNE, ADDING TO TARIFF CONCERNS
One thing the Fed has done and will continue to do to relax monetary conditions before its likely September rate cut is wind down its balance sheet. The central bank reduced its holdings by 8.3% in the last year, on par with the average rate since it started selling off its assets over the two years prior. The balance sheet is down from the 2022 high of nearly $9 trillion to $6.66 trillion. That’s the lowest level since April 2020, but it’s also $2 trillion higher than March 2020.
Trump may publicly rage that Powell won’t slash the federal funds rate, but privately, the central bank’s independence remains a gift to the White House. If July brings us a better inflation rate and more resolution and clarity to our future trade policy, then may the Fed finally give the president what he thinks he wants.