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A senior Federal Reserve official has put the chances that Donald Trump’s trade war leads to a sustained burst of inflation at “50-50”, as he warned US rate-setters would face uncertainty “right through the summer”.
St Louis Fed president Alberto Musalem told the Financial Times that while Trump’s levies could boost inflation for “a quarter or two”, there was “an equally likely scenario where the impact of tariffs on prices could last longer”.
The Trump administration has already brought US tariffs on the country’s trading partners to the highest level in almost 90 years, threatening to fuel higher inflation and slow economic growth. The competing forces have prompted policymakers to adopt a wait-and-see approach after cutting interest rates by 1 percentage point during the second half of last year.
Bond markets have also been rattled in recent weeks by Trump’s “big, beautiful” budget bill, which Congress’s fiscal watchdog estimates will add $2.4tn to the public debt over the next decade. The bill passed the House last month but is still being debated in the Senate.
Musalem, who holds a vote on the Federal Open Market Committee this year, said officials could benefit from a favourable scenario where uncertainty over trade and fiscal policy “goes away in July”. He said that would put the Fed back on track to cut rates in September.
However, Musalem also raised the prospect of another scenario “where inflation begins to rise materially and we will not know whether that is a temporary, one-off increase in the price level or whether it has more persistence”.
Musalem added that “right now, it’s probably a 50-50 assessment” that either situation would emerge.
Economists say the Fed’s reluctance to cut is in large part due to the expectation that tariffs will raise US prices in the coming months and push headline PCE inflation from 2.1 per cent to levels well in excess of rate-setters’ goal of 2 per cent.
Recent surveys show consumers and businesses expect higher inflation in the coming months and years as tariffs take effect. Those expectations have raised concerns among Fed officials that people could lose faith in the central bank’s ability to keep inflation low.
The Fed’s deliberations come at a politically fraught moment for the central bank. Trump has repeatedly attacked chair Jay Powell for not cutting rates, and on Friday called for a “full point” reduction in borrowing costs.
Musalem said political interference could make it more difficult for the central bank to lower interest rates — saying independence was important as it allowed for “more anchored inflation expectations”.
Fed officials — including Musalem — see keeping inflation expectations in check, or “anchored”, as a vital precondition for cutting rates.
“If market-implied and/or survey measures of medium- to long-term inflation expectations begin to rise, at that point it becomes very important to prioritise price stability,” the St Louis Fed president said.
Musalem’s remarks, made on Friday, come ahead of the blackout period for the Fed’s mid-June policy vote, where officials will almost certainly keep interest rates on hold.
The FOMC will also publish a fresh round of quarterly economic projections.
Musalem said he did not “expect to change my numbers very much relative to the March round”, despite the more precarious economic environment following Trump’s so-called liberation day tariff announcement in early April.
“I think we still have some uncertainty. Through the summer, we need to understand what the trade negotiations may be, what legal challenges there may be, or how that resolves in terms of the tariffs. I’m also focusing on fiscal policy and what the shape of that is going to be along with immigration policy and regulatory policy.”
He said the market reaction to “liberation day” “certainly caught my attention”.
Musalem, who spent decades working in finance before joining the Fed, said: “There are days when markets send you a very clear message and that was one of those days.”
Investors responded to Trump’s policies by selling US equities and the dollar, as well as 10-year Treasury bonds. The unusual correlation signalled concerns among investors of the US’s long-held haven status.
Conversations with asset managers suggested that they were looking to gradually rebalance their portfolios even as markets had stabilised in recent weeks, Musalem said.
“The situation had been one of overweight US assets and underweight assets in other countries,” the St Louis Fed president said. “And asset managers are indicating that may change going forward.”
