Description
Americans’ short-term inflation expectations have risen sharply thus far this year, a trend that if continued could make Federal Reserve officials more cautious about cutting interest rates this year. The median expectation of inflation over the coming 12 months jumped from 5.0 percent in March to 6.7 percent in April, according to the University of Michigan’s preliminary reading for April. If the final number for April comes in at the same level, it will be the highest monthly value since 1981. Other survey-based measures of short-term inflation expectations from the Federal Reserve Bank of New York and the Conference Board, though not yet available for April, also have increased noticeably in 2025, albeit less than the University of Michigan's series.
Inflation expectations are important because Fed policymakers and many economists think they can be at least partially self-fulfilling. In other words, low and stable inflation expectations seem to beget low and stable actual inflation. They also give the Fed more latitude to attend to its goal of fostering full employment. Less happily, high and rising expectations seem to beget high and rising actual inflation, compelling the Fed to focus more on its other goal, controlling inflation.
Many economists believe that longer-term inflation expectations do better than short-term inflation expectations in explaining actual inflation. Nonetheless, rising short-term inflation expectations are a source of concern because if households are worried about inflation in the near term, they may also become worried about inflation in the longer term.
President Donald Trump's new tariffs are likely to push up consumer prices in the near term. That might not risk driving inflation persistently higher if expectations were firmly anchored at levels consistent with the Fed's 2 percent inflation target.
But after just going through the worst bout of inflation in four decades, households and businesses may doubt the Fed’s ability or commitment to inflation control. Thus, the risk is greater that a one-time increase in prices may raise long-term expectations and thus fuel higher actual inflation. Fed policymakers will face a dilemma if tariffs simultaneously lift prices while reducing economic activity and employment. If inflation expectations were firmly anchored, the Fed probably would respond to economic weakness by cutting interest rates. But given the risk of inflation remaining above target by more and for longer, the Fed will need to be more cautious about supporting activity and employment. Fed officials have penciled in two rate cuts this year but are less likely to reduce rates if inflation expectations continue to drift higher.
