Understanding Tariff Impacts on Inflation

In a recent address, Federal Reserve Governor Christopher Waller conveyed his analysis regarding the potential impacts of President Donald Trump’s tariffs on inflation rates. Waller commented that he views the anticipated effects of these tariffs as likely to be “transitory,” a term that has previously attracted criticism for its association with the prolonged inflation experienced in the United States during 2021 and 2022.

Inflation Scenarios Based on Tariff Duration

Waller outlined two possible scenarios concerning the tariffs:

• Scenario One: Larger and more enduring tariffs could initially trigger a rise in inflation to the 4% to 5% range. However, this would likely decrease as economic growth slows and unemployment rates increase.
• Scenario Two: Smaller tariffs may lead to an inflation spike of approximately 3%, which would subsequently drop off.

In either scenario, Waller indicated that interest rate cuts from the Federal Reserve would be on the table, hinging on the magnitude and longevity of the tariffs.

Reflections on “Transitory” Inflation

Waller emphasized, “Yes, I am saying that I expect that elevated inflation would be temporary, and ‘temporary’ is another word for transitory.” He acknowledged that while the inflationary surge following the pandemic was more prolonged than initially anticipated, his current assessment suggests that the effects of tariffs will not have a lasting impact.

The concept of “transitory” inflation refers back to the inflation spikes of 2021, which many expected would normalize as supply chains and consumer demand stabilized post-COVID-19.

The Need for Flexibility in Policy Making

Waller, who was appointed by Trump during the former president’s first term, utilized a football analogy to illustrate his stance on the unpredictability of inflation trajectories. He likened the uncertainty surrounding tariff impacts to the Philadelphia Eagles’ “tush push” play: “If you call for the tush push and fail to convert, does that mean you should abandon it in the future? I don’t think so.”

He elaborated on how Trump’s tariffs might serve two objectives: remaking the economy with high levies or utilizing them as a bargaining tool. If maintained, these tariffs could induce a significant slowdown in growth and a notable rise in unemployment. Conversely, easing tariffs could result in a more modest influence on inflation.