The new tariff policy is described as a major economic shock for the United States. In March, the 12-month PCE inflation is estimated at 2.3%, with core PCE at 2.7%. The economy experienced modest growth in the first quarter, with a solid labour market and high inflation showing slow improvement.
Monetary Policy Implications
Monetary policy is currently restricting economic activity, with hopes for moderation in underlying inflation. Inflation expectations are anchored, with a return to moderate levels anticipated in 2026. Partial tariff suspensions add uncertainty, suggesting flexibility in policy is needed.
Different tariff scenarios have varying economic impacts. A smaller tariff scenario might lead to patience with potential rate cuts later in the year. A 10% average tariff could see inflation peaking at 3%, while a 25% tariff may cause inflation peaks near 5%. This could lead to a lasting drag on output and employment, potentially increasing unemployment to 5%.
Higher inflation from tariffs is seen as temporary. Despite past events, it’s believed that the analysis of tariffs’ effects remains sound, with confidence in the current judgment. This view is likened to making strategic decisions, as one would in a critical sports situation.
To put it plainly, the situation as outlined focuses on the impact that a new American trade policy—specifically, fresh tariffs—could have on inflation, growth, employment, and monetary direction over the months ahead. Inflation in the United States, measured by personal consumption expenditures (PCE), clocks in at 2.3% annually, with core readings somewhat higher. However, growth has been muted, even as jobs remain abundant. Rates are high and intended to cool demand, yet inflation has only eased gradually. Policymakers are watching closely, aiming for a return to target levels in about two years’ time.
Trade Policy Shifts and Economic Impact
What complicates this picture is fresh uncertainty from changes in trade duties. These shifts don’t yet have fixed outcomes; they might be paused, revised, or expanded depending on how conditions evolve. The act of suspending some tariffs implies flexibility, but it leaves enough unpredictability to warrant caution.
Let’s work through the scenarios. If the average tariff increase is mild, say 5% across affected goods, inflation might tick higher but by a manageable margin. This would allow central bankers to wait before considering any adjustments in the base rate. A rebound in consumer prices would be noticeable but likely short-lived in that case.
If we’re instead facing something more forceful—say, a 10% level on wider categories of imports—the impact changes. Models suggest inflation could bump toward 3%, which brings a delay to policy easing into view. At that point, growth could slow further and any moves to cut rates would be deferred at least until late in the year. In that scenario, one would expect firmer yields and flatter curves.
But if duties jump up to 25%, the situation becomes more than inflationary noise. Price pressures could reach 5%, which we would not describe as stable or temporary, even if the source is understood. That move would likely trigger a deeper contraction in private demand, feeding through to weaker hiring, with joblessness rising.
At this stage, traders ought not rely on past recovery patterns where inflation moved prettily downward on its own. The supposed temporary nature of these changes hinges on a swift resolution which, historically, has not been reliable. While the view within monetary circles remains that models are holding up under stress, the data trajectory must guide our response. Should higher duties persist, real wage erosion could press consumption lower, making any forward-looking assumptions on easing less plausible.
Powell is still maintaining judgment that policy is sufficiently tight. We can infer that he is not yet satisfied with inflation progress. If inflation readings in May or June surprise to the upside and are traceable to supply-side shock—such as these imported price increases—it would not justify immediate action, but it certainly rules out early relief.
Markets that price in rate cuts before autumn may be doing so out of optimism, and not realism. Short-end positioning should reflect that probabilities for rate movement are skewed, and dependency on international developments is now front and centre. These tariff levels aren’t hypothetical—they’re choices with real consequence, and that demands constant rerating of expectations.
We’ve already seen that implied volatility is creeping up. It’s a signal of growing divergence between inflation inputs and demand patterns. That pressure is not just theoretical. It means we’re setting up for whippier trading weeks ahead, where late-cycle trades start to fall foul of duration risks.
If jobless claims begin to show even a mild upward turn whilst CPI and PCE remain sticky, we should expect more reactive pricing in bonds and swaps. Equity markets, however, may misread this as merely a soft patch. That would be an error.
When shocks are abrupt but telegraphed in their structure, the adjustment process falls to us—strategists, portfolio managers, macro desks—to translate that into rate path recalibrations and scenario mapping. Timing becomes comparative, not predictive.
Derivative strategies now ought to reflect less conviction in downside surprises. The weight of pricing risk rests more squarely with external policy actions, not just domestic metrics. Participants who move first on updated guidance may find narrower bid-offer flows, while laggards will face tighter spreads with less margin for error.
In the weeks ahead, attention must shift from headline figures to base effects, real wage growth, and forward guidance tone. Reaction needn’t be rushed—but it certainly shouldn’t be blind.
