(Bloomberg Opinion) — The case for Federal Reserve interest-rate cuts has always revolved around the idea that inflation was tame outside of the effects of tariffs, which policymakers supposedly ought to “look through” when setting monetary policy. The most prominent proponent of this way of thinking is Christopher Waller, the influential Fed governor who is a favorite to soon succeed Jerome Powell as the next chair of the central bank. Unfortunately for those who are optimistic that rates will be lowered imminently, the inflation data for July released on Tuesday should give pause.
While the consumer price index rose just 0.2% from June, prices of non-housing services rose 0.5%, the hottest reading since January. They were pushed higher by airline fares, dental services and event admissions, among other things (clearly not the sorts of products that you’d associate with President Donald Trump’s multi-front global trade war.) Granted, services inflation in July was tempered by more modest increases in tariff-affected categories such as household furnishings and apparel.
But resilient inflationary pressures in the service sector could makes for a toxic brew alongside the broad expectation that the cost of the highest tariff rates in a hundred years will increasingly be passed through to consumers over the rest of the year. Inflation Insights President Omair Sharif accurately predicted a pickup in core-services ex-housing, telling me Monday that airfares may provide a second-half boost relative to the first half. Already, the three-month annualized reading of core CPI puts inflation at 2.8%, up from 2.4% in June and 1.7% in May — moving further away from the Fed’s 2% target.
One wild card is the auto market, the quiet giant in the “core goods” basket of tariff-susceptible consumer products. So far, new vehicle prices have been well-behaved, declining from April through June and stabilizing in July. Yet Cox Automotive projects prices will increase in the back end of the year as model year 2026 vehicles arrive on lots “and automakers work to claw back the tariff-induced costs they booked” in the second quarter. Pricier and more scarce new cars could also drive further increases in used vehicle and truck prices, which jumped 0.5% in July.
Like the rest of his colleagues on the Fed’s rate-setting committee, Waller will have to weigh the imperfect constellation of inflation data against a labor market that some economists find even more troubling. Here’s how he put it in a July 17 speech on the matter:
…tariffs have boosted, and will continue to boost, inflation a bit above the FOMC’s 2 percent objective this year, but policy should look through tariff effects and focus on underlying inflation, which seems to be close to the FOMC’s 2 percent goal, and I do not see any concern for forces driving it persistently higher.
As I hope will be evident by now, the evidence of a slowing economy, and all the factors I have cited weighing on economic activity, mean that the risks to the FOMC’s employment mandate are greater, and sufficient to warrant an adjustment in the stance of monetary policy.
I am a fan of Waller and have declared him the best candidate for the job of Fed chair, due in large part to his excellent track record and effective communication style. But I do think that the latest report introduces some wrinkles into his argument. With the latest data in hand, I’m not 100% convinced that underlying inflation excluding tariffs is as pristine as he suggested in mid-July. And the duties may yet deliver another jolt to core goods prices. Meanwhile, the labor market hardly inspires tremendous confidence, but it’s probably not about to fall apart either.
A report earlier this month showed that payroll growth over the past three months averaged just 35,000. Although few people are getting hired, layoffs are low as well. And even as labor demand wanes, Trump’s border crackdown — and the chilling effect of his immigrant deportation campaign — is creating a headwind to labor supply, keeping the unemployment rate low and stable (at least for now). Taken together, there’s still room for debate about whether the labor market is simply stuck — lacking dynamism and opportunities for new workers — or is flashing warning signs of an imminent deterioration.
Logically, Waller and the other members of the Fed’s rate-setting committee will have to wait and see what happens. Before their Sept. 17 meeting to decide rates, they will get another round of labor market and inflation data to refine their thinking. But for all the wishful thinking on Wall Street, it’s hard to believe Tuesday’s data has increased the odds of a rate cut next month. If anything, those odds have modestly worsened.
More From Bloomberg Opinion:
This column reflects the personal views of the author and does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Jonathan Levin is a columnist focused on US markets and economics. Previously, he worked as a Bloomberg journalist in the US, Brazil and Mexico. He is a CFA charterholder.
More stories like this are available on bloomberg.com/opinion
