Adriana Kugler believes that keeping the policy interest rate steady is the right choice, pointing to low unemployment and pressures from tariffs. Inflation is still above the 2% goal, with June PCE inflation at 2.5% and the core estimate at 2.8%. Many think that tariffs will push inflation higher. The Fed will soon enter a period of silence before the July FOMC decision. Fed’s Williams mentioned that while inflation is changing, it’s important to rely on data. He talked about housing factors causing uneven inflation changes and noted that tariffs may only have a modest effect. He predicts they could raise inflation by 1 percentage point by 2026. The Fed’s policy is slightly restrictive, allowing time to watch data, while financial conditions support growth. Inflation is expected to be between 3.0%-3.5% this year, dropping to 2.0% by 2027.

Need For Data-Driven Decisions

Fed Bostic stressed the importance of understanding inflation trends before making rate cuts. Recent CPI data shows signs of inflation pressure, so decisions need to be based on data. Tariffs are leading to unusual pricing patterns, and the complete impact may not be clear until 2026. The central bank must maintain its credibility by sticking to its inflation target. With Fed officials unified in their stance, we believe interest rates will remain “higher for longer.” Kugler’s comments underline the steady policy due to a strong labor market and rising inflation risks. As the Fed enters its blackout period ahead of the July 30th meeting, this hawkish sentiment is the last official word for some time. Their concerns are backed by recent data showing inflation slowing down again. The June Consumer Price Index (CPI) report indicated that overall inflation rose to 3.1% and core inflation to 3.4%, both increasing from the previous month. This data supports Bostic’s view that inflation pressures may be at a turning point, making immediate rate cuts unlikely. Frequent mentions of tariffs as a future inflation risk are crucial. Williams thinks these trade policies could add a full percentage point to inflation by 2026, making it harder to hit the 2% target. This suggests that even if other prices stabilize, this new factor will keep the central bank cautious.

Impact On Financial Markets

For interest rate derivatives, it’s time to rethink bets on short-term rate cuts. The CME FedWatch Tool now shows about a 90% chance that the Fed will keep rates unchanged in July, a big change from just a few weeks ago. Looking ahead, the odds for a September rate cut have also dropped below 50%, reflecting this new reality. In equity markets, we need to prepare for challenges and potential volatility. Historically, times when the Fed is hawkish about inflation see limited stock market gains and increased risk, unlike the low-volatility rally of early 2024. We might consider using options to protect against downside risk, as the VIX index, currently near a low of 13, could jump if the market adjusts to this strict policy stance. This policy difference also supports a stronger U.S. dollar. Other central banks, like the ECB and Bank of Canada, have already started cutting rates, making the dollar’s yield advantage clearer. We can take advantage of this by using call options on dollar-tracking ETFs or by favoring the dollar in currency pairs. Create your live VT Markets account and start trading now.

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