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A key inflation metric moved closer to the Federal Reserve’s 2 percent target for the second month in a row in March, but tariff-driven price increases aren’t likely to show up in the data until May.
“Tariffs will snatch defeat from the jaws of victory,” Pantheon Macroeconomics Chief Economist Samuel Tombs predicted in a note to clients Thursday, in regard to what would otherwise have been an encouraging drop in the Consumer Price Index to an annual rate of 2.4 percent.
“The details of this CPI report are about as good as the [Federal Open Market Committee] could have hoped for, freeing its hands a little further to ease policy soon to support the weakening labor market,” Tombs said of the Federal Reserve’s rate-setting committee.
It takes about three months for consumer prices to respond to new tariffs, Tombs said. Forecasters at Pantheon Macroeconomics expect tariffs will drive up core CPI inflation, which excludes volatile food and energy prices, to 3.5 percent later this year.
But Pantheon Macroeconomics is still forecasting that the Fed will cut short-term rates by three-quarters of a percentage point this year, starting in June, to keep unemployment from getting out of hand.
Stock markets tumbled and mortgage rates climbed this week as investors tried to make sense of the Trump administration’s on-again, off-again tariff policies.
A 10 percent baseline tariff that took effect April 5 and applies to almost all U.S. trading partners remains in effect, but President Trump on Wednesday paused implementation of more severe country-specific “reciprocal” tariffs on dozens of trading partners — with the notable exception of China.
Markets soared and pressure on interest rates eased Wednesday after Trump’s announcement of the 90-day pause on most reciprocal tariffs, but sagged again Thursday as investors weighed the prospect of a trade war with China.
While Trump said duties on goods from China would be hiked to 125 percent, the White House on Thursday clarified that’s on top of an existing 20 percent tariff — meaning duties on America’s third-largest trading partner are now 145 percent.
China, which has vowed to fight tariffs “until the end,” ratcheted up retaliatory duties on U.S. goods to 84 percent.
For now, some goods from Mexico and Canada are exempt under the United States-Mexico-Canada Agreement (USMCA) — a “major win” for homebuilders, the National Association of Home Builders (NAHB) said last week. The U.S. auto industry still faces 25 percent duties on steel, aluminum and automobiles.
Samuel Tombs
Tombs said tariffs on goods from China — initiated at 10 percent in February and increased to 20 percent in March — have yet to make much impact on consumer prices.
“The experience of tariffs on washing machines in 2018 suggests that it takes three months for consumer prices to respond to new tariffs, after which pass-through is rapid,” Tombs said.
All told, Pantheon Macroeconomics estimates the average effective tariff rate on U.S. imports now stands at 17 percent. Depending on how much of the additional costs retailers pass on to customers, Pantheon estimates consumer prices could rise by one to 1.5 percentage points.
Annual CPI nearing 2 percent
Since peaking at 9.1 percent in June 2022, annual CPI inflation has come down by nearly seven percentage points, dropping to the lowest level in 4 years in March.
Core CPI, which can be a better indicator of trends, also dropped for a second consecutive month in March, to 2.8 percent.
The index for energy fell 2.4 percent in March, driven by a 6.3 percent decline in gasoline prices that “more than offset increases in the indexes for electricity and natural gas,” the Bureau of Labor Statistics reported.
The Federal Reserve’s preferred inflation metric, the Personal Consumption Expenditures (PCE) price index, dropped to 2.1 percent in September, but has moved farther away from the Fed’s 2 percent target since then.
Even with the PCE price index registering 2.5 percent in February, “Inflation is now back down to much more normal levels,” Federal Reserve Chair Jerome Powell said last week.
While unemployment is low and the economy has been growing, “prices don’t go down,” Powell acknowledged. Consumers “know they’re paying much more for the basic necessities of life, and they’re right not to be happy about it.”
The PCE price index for March will be released on April 30.
Mortgage rates on a rollercoaster ride
After descending from a 2025 high of 7.05 percent on Jan. 14 to a low of 6.48 percent on April 8, rates on 30-year fixed-rate conforming mortgages shot back up to 6.82 percent this week, according to rate lock data tracked by Optimal Blue.
Fannie Mae economists predicted in March that mortgage rates should drop below 6.5 percent in the second half of this year, and average about 6.2 percent most of next year, but warned that the “unusually high degree of uncertainty regarding the path for growth and inflation during the rest of 2025” adds risk to that forecast.
In a March 20 forecast, economists at the Mortgage Bankers Association predicted rates will stay in the mid-sixes all of next year.
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