We have not changed our Fed call in the wake of the latest tariff announcements. Given what we have on the table now in data and theory, we anticipate the Fed will hold its ground until the job market shows signs of strain and then to proceed by cautiously balancing between the two mandates. In theory, this is just more risk to both sides of the mandate. That speaks to the framework we have laid out, and against a May or June cut.

To be sure, we retain a healthy degree of caution. We can’t dig in too deeply here. It’s a long time to June, in theory this is a “sudden stop” type of shock, the Fed may need to manage a disorderly fall in risk assets, there exists the possibility of political pressure on the Fed, and the Fed may misread the nature of this shock as more transitory than it really is.

The path ahead for the Fed and markets depends on whether the Fed views Trump’s trade policies as a transitory shock, and whether that is the correct assessment.

This suggests that Powell will deliver a “hold steady” message in tomorrow’s speech. He can fall back on the story that the data is sufficiently strong that the Fed can remain on hold as it assesses the impact of tariffs in the context of the totality of fiscal policy.

That said, we expect Powell will backtrack on his dovish press conference inflation messaging. That messaging seemed ill-advised, and it didn’t reflect a consensus of FOMC participants. Repeating it will appear tone-deaf when inflation forecasts are now heading above 4%, deepen expectations of easier policy, and would signal that the Fed doesn’t take the price mandate seriously.

We advise market participants to watch for any sign from Powell regarding the Fed willingness to endure pain on the employment side of the mandate.

The Reserve Bank of Australia (RBA) will hold off on a March rate cut but likely tilt guidance toward a May easing using language as it starts to rebalance the Bank’s inflation concern with downside growth risk.

As is the case for a number of central banks, inflation and growth risks are now pulling in different directions, posing the likelihood the RBA will need to shift more clearly to protecting downside growth risks over the next several months.

We see the Bank cutting 25 bps in May and August 12 to around 3.50%, with the risk of another move in the second half of the year (see SGH 12/2/25; “RBA: Hawkish Cut, Shallow Path”). While that may be sufficient to buffer economic growth, the Bank will become increasingly attuned to the risk of a softer second half of the year amid ongoing trade fallout.

Monday Morning Notes, 3/31/25

We have been on the road this past week, and here is what we have been discussing with clients:

· Tariffs, tariffs, tariffs. Trump’s tariffs policies are the single biggest shock hitting the US economy, and it’s a shock in two dimensions, magnitude and uncertainty. So far, the turmoil on Wall Street has not deterred Trump, and the Washington Post reported over the weekend that he is pushing his staff to be even more aggressive:

But Trump continues to muse to advisers that his administration should continue to escalate the trade measures and has in recent days revived the idea of a universal tariff that would apply to most imports, regardless of their country of origin, the people said, speaking on the condition of anonymity to describe private discussions.

In public and private, the president has said tariffs represent a win-win that will bring manufacturing jobs back to the United States and fill federal coffers with trillions of dollars in new revenue. He has also said he thinks he made a mistake in allowing advisers to talk him out of bigger tariffs during his first term, the people said, and that he thinks a single, simple duty on most imports could help prevent exemptions from weakening their impact. It’s unclear how seriously that proposal is being considered.

Trump’s drive to reorder the global economy through tariffs will not end anytime soon, presumably until the economic implications become too big to ignore politically. Prepare accordingly.

Despite all the uncertainty and the pullback in market pricing for cuts, we continue to lean toward another 25bps rate cut on April 17, from 2.5% to 2.25%, followed by a final cut to 2% on June 5.

If we were to have to choose between an April or June cut, we would lean to April as the cleaner and more logical choice, allowing the ECB to reassess at its next forecast round in June.

The Bank of Japan (BOJ) is almost certain to hold its policy rate steady at 0.5% this week though, as we have been writing, the case to raise rates on May 1 has been steadily building in the background.

Rising inflation, the latest bid by unions for wage increases and importantly, a higher yen, all have been supporting BOJ governor Kazuo Ueda’s bid to secure a “virtuous cycle” of wages and prices, so he can push the policy rate higher.

However Ueda’s caution to avoid rattling markets or signal that the Bank is stepping up the pace of its hikes is likely to limit his post March 18-19 meeting press conference comments to hints at the Bank’s readiness to hike again at a future meeting.

The SEP

We anticipate the SEP will reflect the standard theoretical impact of a supply side shock. The standard impacts are lower growth and higher unemployment and inflation. The Fed has more certainty about the nature of the shock than it did at the December FOMC meeting, and FOMC participants should incorporate that updated knowledge in their forecasts.

We think higher unemployment and inflation will offset each other and allow the median dots to remain the same as in December.

We see at least a 50-50 chance the Fed pauses QT at this meeting. The messaging around QT has been sloppy. On one hand, the Fed has rolled out a bunch of metrics to say that reserves are still abundant. On the other hand, the Fed sees that debt ceiling dynamics may temporarily make reserve less abundant. If the latter is a concern, it doesn’t make much sense to wait until the Fed is closer to a problem before pausing QT which argues for pausing at the beginning of April.

Powell can describe rising unemployment and inflation forecasts as having offsetting impacts on the policy rate projections; it’s simply the dual mandate in action. Higher unemployment is the pain necessary to ensure that inflation returns to trend.

Assuming the SEP follows our expectations, Powell may be asked to explain why the SEP continues to forecast rate cuts even with rising inflation forecasts. This isn’t easily explicable without a higher unemployment forecast. Without a higher unemployment forecast, the Fed needs to lower the expected number of rate cuts, otherwise the Fed’s reaction function will be perceived as more dovish and fuel inflation expectations.

There is no consensus for an imminent rate cut. With the data the Fed has on hand, the labor market is in balance and inflation threatens to be sticky above target. There is little room to consider a rate cut at the May meeting at this juncture; in Fed parlance, there is no hurry to cut rates (the hurry will come if initial claims start to rise). Powell can largely repeat his pre-blackout messaging.

A cut at the European Central Bank’s next meeting in April to follow the 25bps cut in its benchmark deposit ratetoday to 2.5% is clearly a decision that is very much up in the air. But although today’s press conference from ECB President Christine Lagarde was, in being fully noncommittal on future moves, a bit more hawkish than we had expected, we still lean toward expecting two more 25bps rate cuts from the ECB in April and June, to take the deposit rate down to 2%.

Where we would adjust our previous assessment is that an April cut may no longer follow in response simply to data that affirms further confidence in hitting the ECB’s latest inflation forecast. Most notably, that would mean further affirmation of continued gradual disinflation in core and services, which we expect. Rather, the Governing Council may need just a bit more rattling on the trade front, or on signs of continued consumer retrenchment, to get consensus for two more back-to-back cuts. We do think that will be coming.

Bottom Line: This week is shaping up to be a key moment for Federal Reserve Chair Jerome Powell. The Fed takes fiscal policy as given, and Powell needs to decide what that means in this environment. If Powell decides that Trump’s tariff salvos will soon wane, he will lean toward looking through tariffs as temporary and signal a willingness to adjust rates more quickly. We think, however, it is more likely than not that Bessent has disabused him of that notion, and he will follow the unified guidance of FOMC participants which is to push any rate decisions toward the back half of the year.

Last night Speaker of the US House of Representatives Mike Johnson (R-LA) defied media expectations, and with a strong assist from President Donald Trump squeaked his Budget Resolution through the lower chamber of Congress despite a mere one seat margin, and by losing exactly one vote.

Rather than take stock of this major victory, analysts and reporters are focused now on all the significant hurdles the Senate and House will face in reconciling their two competing bills. But this we believe is at great risk of “missing the forest for the trees.”

A final bill will take months of negotiation and will indeed not be easy. But we remain optimistic about the prospects for the passage of a single, large reconciliation bill that will in addition to borders, defense, and energy include full, and importantly permanent, extension of Trump’s expiring 2017 TCJA tax cut provisions.

Furthermore, we expect a final bill will also include most of the high-profile tax cuts promised by Trump on the campaign trail, but for which there is not enough room in the current House numbers (e.g. cutting taxes on tips, social security, overtime, plus perhaps some raising of SALT deduction limits).

If You Don’t Have Time This Morning

For the Fed, risks are growing to both sides of the distribution. On one side, Trump-driven uncertainty is beginning to weigh on confidence, raising the risk that firms need to put investment and hiring decisions on hold until they see clarity on tariff policy and the federal budget. That raises the specter of the kind of coordinated pessimism that precedes periods of weaker growth. On the other side, inflation expectations have picked up, something that already keeps FOMC participants up at night as they ponder the impact of tariffs. The Fed doesn’t feel a need to address either side of the distribution for now. The Fed views the labor market as balanced and resilient and while inflation is off its peak, it’s still elevated. The Fed sees no urgency to act and is comfortable moving to the sidelines for the foreseeable future. It likely won’t cut rates in the coming months on inflation alone; rate cuts require that the Fed sees a threat to the employment mandate. That outcome strikes us as more likely than the possibility that the labor market overheats such that the Fed begins reversing last year’s rate cuts.

what will ultimately determine the rate path from March onwards will be the evolution of inflation. And in view of the divisions within the Executive Board, the February and March inflation reports will gain even greater importance.

In part due to base effects, the ECB expects services inflation to finally drop to levels compatible with its 2% target over the coming months. More importantly, there is widespread evidence that wage pressures are coming down dramatically. And on the activity side, there is a chance that the already modest expectations for 2025 growth will need to be revised down in March, yet again.

If You Don’t Have Time This Morning

As we have expected since the beginning of the year, the Fed is positioning for an extended pause. FOMC participants are in no rush to again recalibrate interest rates. With growth solid, the labor market roughly in balance, and inflation still above target, the Fed is content to sit back and adjust policy, if necessary, only after it sees the impact of Trump policies.

The Reserve Bank of Australia (RBA) looks set to serve up its first rate cut in almost five years this month as the balance between considerations of keeping downward pressure on inflation without spiking unemployment, starts to tip toward downside growth risk.

The RBA will likely cut its cash rate 25 basis points to 4.10% at its February 17-18 forecast round meeting, accompanied by a slight reduction in its inflation forecasts if the most recent quarterly inflation data have confirmed its projections that further progress is likely.

The decision will not come without arduous Board debate and agreement to go it slow thereafter. Governor Michele Bullock’s press conference will center on that inflation-vigilant hawkish message.

The RBA will have to navigate its policy moves around this year’s Budget, scheduled to be handed down by the Anthony Albanese government on March 25, as well as yet-to-be-called Federal elections which must be held before May 17.

With speculation swirling among local politicos of potential election dates on April 12, May 3 or May 10, the RBA could skip an April 1 move yet still opt to ease rates again at its May 19-20 meeting.

In short, under “current law” scoring the Joint Committee on Taxation or Congressional Budget Office in its projections assumes tax cuts will expire as legislated and thus show savings after the expiry of certain elements of the 2017 TCJA. Extending the TCJA under that scoring would, in theory, “add” plus or minus $4 trillion of costs over a 10-year projection period.

Under “current policy” scoring, as the description suggests, the calculation is based on current policy, rather than legislation, and so simply extending the current TCJA policies would not add significant costs beyond technical adjustments here and there.

Importantly, there is precedent for using “current policy” scoring, including for example in the last administration when former president Joe Biden rejiggered some children’s assistance programs into new initiatives but at no new additional expense, and which raised no hackles from either side of the aisle.

So, the name of the game for Republicans may be not to offset the entire current law scored “cost” of the TCJA extension plus and real new costs of additional tax cuts, but to find perhaps $2 trillion or so in cost cuts over the standard 10-year projection period.

And so, despite Trump’s statement at Friday’s press conference with Japanese Prime Minister Shigeru Ishiba that he was now leaning more towards targeted “reciprocal” tariffs than a universal tariff, it seems clear to us that substantial revenue will need to be raised via tariffs no matter how these are labeled.

In other words, we do not expect “reciprocal” tariffs to be as modest as might be inferred from effective tariff rate differentials between the US and its major trading partners.

Rather, we expect the Trump administration will also factor heavily for non-tariff barriers, from China’s subsidies of domestic enterprises to the European Union’s heavy use of Value-Added Taxes (VAT) that effectively tax imported and other domestic consumption goods but are not applied to exports.

And finally, regarding the initial 25% tariff lobbed against Mexico and Canada for their lack of action in stemming the flow of fentanyl and migrants across the US border, which was delayed by 30 days after promises to cooperate, many in Washington think that may have been a dry run of the president’s powers under the IEEPA (International Economic Emergency Powers Act) for potential future tariffs as well.

In short, under “current law” scoring the Joint Committee on Taxation or Congressional Budget Office in its projections assumes tax cuts will expire as legislated and thus show savings after the expiry of certain elements of the 2017 TCJA. Extending the TCJA under that scoring would, in theory, “add” plus or minus $4 trillion of costs over a 10-year projection period.

Powell will be on Capitol Hill this week. Powell will appear at the Senate and the House on Tuesday and Wednesday, respectively, for the semi-annual Humphrey-Hawkins testimony (see below). Also, this week is Cleveland’s Beth Hammack, New York’s John Williams, Atlanta’s Raphael Bostic, and Dallas’ Lorie Logan. We anticipate these speakers will reiterate that the Fed is on hold for now as it works to understand the impact of Trump policies.

The all-important inflation data is the highlight of the week. The NY Fed inflation expectations numbers on Monday will gain additional attention as the Fed works to understand the impacts of tariff threats. Later in the week market participants get all the components that feed into PCE-inflation. The Fed anticipates that base effects will begin washing out of the data and bring down year-over-year inflation.

A slower-than-expected pace of progress will reinforce the Fed’s expectations that policy rates will remain unchanged for the foreseeable future. That said, we think the Fed is setting the stage for staying on hold even if inflation falls as anticipated. Market participants will be unnerved by any significant upside surprise in this week’s numbers. Although FOMC participants clearly do not anticipate rate hikes ahead, a high inflation number will lead market participants to put more weight on that potential outcome.

The Fed is moving toward a hawkish repositioning at the March FOMC meeting. With the economy settling into a patten of steady growth, the Fed sees room to turn its attention to the possibility that supply side disruptions attributable to Trump’s policies may un-anchor inflation expectations. Last Friday’s data only reinforces the Fed’s desire to move more firmly to the sidelines. The combination of solid job growth, a lower unemployment rate, and rising inflation expectations all feed into the hawkish repositioning.

The stated logic of a pause in April would be to downshift the pace of rate cuts as soon as rates touched the top end of a theoretical long-term neutral range.

But with euro interest rates still clearlyrestrictive by any real-world metrics, at least for this cycle, markets have over these last days fully priced a cut in April, or as we said “a straight line” of 25bp cuts every meeting through June, and beyond that a destination a bit south of 2%.

On a related note, we also made a bit of hay out of indications in Davos by ECB President Christine Lagarde that an ECB staff review due out on February 7 of the euro area long-term neutral range could peg that at a 1.75% to 2.25% range, as opposed to the slightly higher 1.75% to 2.5% range usually cited by analysts and reporters.

UK Chancellor Rachel Reeves’ declaration that the ruling Labour Party’s “number one mission” is growth, has set the stage for the Bank of England (BOE) to resume rate cuts with a 25-basis point easing to 4.50% at its February 6 meeting.

Notwithstanding the government’s plans to reinvigorate the UK economy over time, the government’s still bleak fiscal position remains, and the risk of persistent financial tightening suggests the Bank will be forced to cut rates to 3.75% by year’s end and likely further next year.

The European Central Bank will cut 25bp, from 3% to 2.75% on its benchmark deposit facility rate, when the Governing Council convenes this week in Frankfurt.

While preserving the flexibility of its “meeting by meeting” approach to rate decisions, President Christine Lagarde will affirm what markets already know, that this is not the last rate cut, and that more cuts are likely to follow.

The cadence and final destination for rates will be left open, but we continue to expect the ECB to cut rates by 25bp at every meeting – Jan, Mar, Apr, Jun – until the deposit rate hits 2% in June (see also SGH 1/15/25, “ECB: Shifting Balance of Risks”).

Putting exogenous forces for a moment to the side, market expectations of ECB rate cuts have also pulled back of course by a backup since December in rate cut expectations by the US Federal Reserve. Furthermore, markets have put great weight on the assessment by Executive Board Member Isabel Schnabel that the nominal neutral rate for the euro area economy lies well north of 2%, and so by extension any cuts below 2.5% will be delivered much more cautiously, feeding into the narrative of an April meeting skip.

While she is extremely influential, Schnabel’s assessment of a significantly higher than 2% neutral rate is not shared more broadly across the Governing Council, and ECB.

Indeed, in an interview last week in Davos, Lagarde pegged neutral as probably somewhere between 1.75% and 2.25%. From Lagarde:

You know, the [ECB] teams do as much work as they can to pin it [neutral] down within a range that is as reduced as possible. At the moment, it’s anything between, you know, 1.75, and 2.25, people will be discussing that at length. When we get closer to that, it will, the debate will be a little bit hotter, but it’s that very, very subtle point where our monetary policy neither stimulates nor restricts, and it’s, it’s a touch and go.

The Fed will leave interest rates unchanged at the end of this week’s FOMC meeting. We don’t think Fed Chair Jerome Powell will give a nod toward cutting rates in March. There isn’t yet any appetite at the Fed for a rate cut given still resilient growth and Trump-related policy uncertainty.

This week’s FOMC meeting should end without any fireworks. Unless the data unexpectedly breaks weaker, the Fed will remain on hold for the near term as it assesses the economy and the impacts of Trump’s policy agenda. We expect that Powell will maintain the status quo for policy expectations in the post-meeting press conference and we don’t think he will give a nod in favor of a March cut.

With the threat of US tariffs looming, the Bank of Canada (BOC) is poised to keep easing from its first meeting this year on January 29 and follow with additional rate cuts through this year as the country braces for a trade battle with the US.

BOC Governor Tiff Macklem, who arguably overachieved on his campaign to wrestle inflation back down to within the Bank’s target band, is now facing tariff-inspired downside growth risks far greater than he probably foresaw.

US President Donald Trump’s blanket 25% tariffs threat against Canada on February 1, if applied across the board, would plunge the US’ northern neighbor into recession.

Notwithstanding the BOC downshifting to a 25-basis point rate cut at this meeting, in our last report (see 1/7/25; “BOC: Not Done Yet”) we warned that December’s 50 bps cut to 3.25% was by no means its last move.

After January’s cut, the Bank may opt to skip the March 12 meeting while it waits for more clarity about the extent of US duties on Canada and resume cuts at its April 16 forecast round which would take rates down to 2.75%.