Inflation: Too Early to Declare Victory

Continue to Expect Pickup in Second Half

The past week was one with a great number of moving parts on the tariff front, and lots of US economic data. On the trade front, US negotiators led by Treasury Secretary Scott Bessent met with senior Chinese government officials last weekend in Geneva, Switzerland and agreed to a significant rollback in tariffs over the next 90 days. China lowered the new levies on US products from 125% to 10% while the US agreed to reduce the reciprocal tariff on Chinese products from 125% to 10%. Although the suspension of tariffs was temporary, investors were euphoric that this could imply a permanent thaw in US - China relations.

On the inflation front, figures published by the US Bureau of Labor Statistics on Tuesday showed that the April increase in the Consumer Price Index, both month-on-month, as well as the annual change, was lower than the consensus had anticipated. The annual inflation rate of 2.3% was the lowest since February 2021. And on Thursday, we learned that the Producer Price Index actually fell by 0.5% last month compared with a consensus expectation of a 0.2% rise.

Has inflation been vanquished and are things moving toward stability on the trade front? Neither proposition is supported by last week’s data.

SriKonomics has suggested in past issues that the full impact of tariffs on prices will be felt only in the second half of the year and this is still the prevailing view. The unexpected decline in the PPI last month appears to be a consequence of wholesalers cutting margins rather than increase prices. But with tariffs still substantially higher than they were before “Liberation Day” (April 2), reducing margins may not be a permanent solution. The higher tariffs are likely to be passed on to consumers in the form of elevated prices before too long.

With one view being that China got the better end of the bargain, there could be modifications from the US side before the 90-day truce is made permanent. Furthermore, the European Union and the United States agreed just last week to start discussions after the EU threatened to take a hard stance in the tariff war. The EU was a bigger exporter to the United States than China during 2024, and how the talks proceed would be of crucial importance.

In short, despite the improvement in the short-term outlook for US - China relations, it is not Hallelujah time yet on the trade front.

On inflation, two indicators are key. A University of Michigan consumer survey released yesterday showed that inflation expectations over the next year spiked from 6.5% last month to 7.3% in May. According to Joanne Hsu, Director of the Surveys, “uncertainty over trade policy continues to dominate consumers’ thinking about the economy.”

Second, John David Rainey, CFO of Walmart, the US’ largest importer, said on Thursday that the company is having a difficult time absorbing the cost increase stemming from the tariffs. Despite reduced tensions following last weekend’s Geneva talks, he anticipates that significant cost increases at Walmart stores will begin by late-May and become more pronounced in June.

By comparison with what we learned from the economic data and from the University of Michigan survey, there was little informative content in a speech Federal Reserve Chairman Jerome Powell gave on Thursday. At the opening, he explained how inflation remained at sub-target levels following the Global Financial Crisis of 2008. He explained that “reflecting these concerns, we adopted a policy to make up for persistent shortfalls from the inflation target.”

CYA would be the polite appraisal of the Chairman’s self-evaluation, and the potential explanation for missing the inflation surge during 2020 - 2021 — because he was fighting the previous war. Was he not aware that the surge in government spending in the first Trump and Biden administrations in reaction to covid meant that it would have been counterproductive for the Fed to also join the party in a big way by lowering interest rates to zero and doubling the central bank’s balance sheet?

SriKonomics was pounding the table starting with the first issue published on December 22, 2020 that the Fed ought to change the way it was conducting policy and not switch to undue expansion. In his talk Thursday, the Chairman detected that “we may be entering a period of more frequent, and potentially more persistent, supply shocks.”

If Powell wants to combat uncertainty stemming from repeated supply shocks, a rules-based monetary policy would be a better option. The current policy framework involves abrupt switches in approach — from a 50-basis reduction in the policy rate (September 2024) to last week’s warning about inflation’s persistence — that can, by themselves, perpetuate inflation.

Dr. Komal Sri-Kumar

President, Sri-Kumar Global Strategies, Inc.

Santa Monica, California

srikumar@srikumarglobal.com

@SriKGlobal

May 17, 2025

Sri-Kumar Global Strategies, Inc. advises multinational investors and sovereign wealth funds on global risk and opportunities. Dr. Sri-Kumar is regularly featured on business TV and Radio media, and is a frequent speaker in global financial centers on major topics that affect markets and investments.

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