Financial markets are increasingly confident that the Federal Reserve will initiate interest rate cuts by September, following surprising data on U.S. inflation. A recent government report indicated that the Consumer Price Index, which gauges underlying inflation, increased by only 0.1% in May after a 0.2% rise in April.
Year-over-year, overall consumer prices climbed by 2.4%, slightly above April’s figures and below economists’ expectations of 2.5%. The immediate market reaction was significant.
Traders in short-term interest rate futures now assess a 68% likelihood of a quarter-point rate cut by September, an increase from 57% prior to the inflation report. There is even a growing speculation about an early rate cut, with an 18% chance of such a move occurring in July, up from 13% just the day before.
The Federal Reserve is expected to maintain its benchmark interest rate in the 4.25%-4.50% range at the conclusion of its two-day policy meeting next week, a level it has held since December. Although Fed officials anticipate that the Trump administration’s tariffs will hinder their progress toward the 2% inflation target and may negatively affect the labor market, they believe that a stable job market—with the unemployment rate at 4.2%—allows them to keep borrowing costs steady while managing inflation.
Nevertheless, uncertainties regarding the impact of tariffs on the economy remain. Recently, President Trump announced a trade agreement with China that imposes a 55% tariff on Chinese imports, a significant decrease from the 145% rate set in April but still noticeably high by historical standards.
As the expiration of a 90-day tariff pause approaches in early July, markets are anxious but remain hopeful after the latest inflation figures. Chris Zaccarelli, chief investment officer at Northlight Asset Management, expressed cautious optimism, noting that many risks present in early April seem to be lessening.