Opinion Tariff tracker, May 8: How Trump’s tariffs are upending US Fed’s monetary stance
The uncertainty created by Trump’s tariffs as well as the lack of clarity on the nature of trade negotiations especially with China has forced the Fed to adopt a wait and watch approach, much like the rest of the economy.
Federal Reserve Chairman Jerome Powell walks off after a news conference following the Federal Open Market Committee meeting, Wednesday, May 7, 2025, at the Federal Reserve in Washington. (AP Photo) 
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On May 7, the US central bank — the Federal Reserve or the Fed — decided to maintain the status quo on the interest rate for the US economy. At one level, this was a widely expected result. At another, this decision underscored how US President Donald Trump’s tariff policy was upending the country’s monetary policy.
The Fed met over May 6 and 7; this was the first meeting since Trump announced reciprocal tariffs on the rest of the world on April 2. Over the course of the past five weeks, the US economy’s fortunes seem to have nosedived. The first quarter GDP contracted, thanks to a surge in imports even as manufacturing activity is stalling and consumer and business sentiment dips.
At the start of the year, most analysts expected anywhere between 2 to 4 cuts of 25 basis points in 2025. That’s because at that time the economic activity was growing robustly, unemployment rate was near target and inflation was aligning with Fed’s 2% target for the medium term. In other words, had it not been for Trump’s policies, the US Fed would have cut interest rates.
However, the twin combination of high tariffs (and that too across the board) as well as the proposed tax cuts in the Federal Budget have meant that US inflation’s trajectory could alter. Tariffs create a supply shock, bringing down economic activity, while also pushing up prices. In such a supply-constrained economy, tax cuts will leave consumers with more money and thus push up demand. The net result could be the worst challenge before any central bank: stagflation, or a situation where growth stagnates while inflation rises.
Typically central banks have to face only one problem: either a faltering economy (and as a result, low inflation) or rising inflation ( because the economy is booming). The solution is rather straightforward in either case: cutting interest rates to boost the economy or raising them to contain overall demand and price rise.
Indeed, almost all central banks — be it in China or the European Union or indeed, the RBI — are cutting rates to counter the adverse impact of Trump’s trade war on their economy’s growth rate.
But the US Fed is caught in a bind. Cutting interest rates — as indeed is the express demand of the US President — would risk flaring inflation even though it may help economic growth. Maintaining the status quo (as the Fed eventually decided) may be more prudent from the perspective of inflation control but risks damaging US’ economic growth momentum.
When asked what would it take for the Fed to cut interest rates, Chairman Jerome Powell said the following: “We don’t see big effects (of tariffs) in the (hard) data…Remember there can be two effects: Weakening economy which translates into higher unemployment and the other would be potentially higher inflation. The timing, the scope and the persistence of those effects are very very uncertain. So it is not at all clear what the appropriate response from monetary policy is at this time.”
Clearly, the uncertainty created by Trump’s on again, off again tariffs as well as the lack of clarity on the nature of trade negotiations especially with China, has forced the Fed to adopt a wait and watch approach, much like the rest of the economy.
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