Latest / The Federal Reserve Podcast with Fexingo: Interest Rates, FOMC Meetings, and Monetary Policy / How the Fed Reads Import Price Surprises in July 2026
Transcript
- Lucas: So import prices surprised to the upside last week — the cost of goods from China hit its highest level since 2008. That's a pretty sharp jump, and it came right as core CPI and core PCE have been showing more ambiguous signals. Luna: Right — because the core PCE we just got for May came in at 130.1, up from 129.67 in April. That's still modest, but it's not falling the way some hoped. Lucas: Exactly. And the question for the Fed is: do they treat this as a one-off tariff-driven spike, or does it change the underlying inflation trend? The ten-year breakeven inflation rate is sitting at 2.28 percent, basically flat — so bond markets aren't panicking. But the import price data adds a wrinkle. Luna: Kevin Warsh gave a speech earlier this week where he homed in on three phrases — 'patient,' 'data dependent,' 'well positioned.' A lot of Fed watchers parsed that as a signal they're in no rush to cut. Lucas: Right. And I think the import price number reinforces that caution. Look, the core PCE is still running a bit above the Fed's 2 percent target, even if you strip out food and energy. If import costs are rising because of tariffs, not because of demand overheating, the Fed might be tempted to look through it. But they can't ignore it if it starts feeding into consumer prices. Luna: So how much of that import price jump is actually tariffs versus, say, supply chain disruption? The headline said costs from China are at the highest since 2008 — that's pre-financial crisis territory. Lucas: It's mostly tariffs. The administration announced a new global tariff just this week, with a forced-labor justification. And there's a separate plan for generic drug tariffs starting in 2028, with a two-year delay. So the trajectory is clear: trade policy is adding costs. The question is pass-through. If companies absorb it, margins shrink. If they pass it on, CPI goes up. Luna: And the Fed's preferred measure, core PCE, already ticked up. That May reading — 130.1 — might be a canary. Lucas: I think it is. But let's be precise: core PCE in April was 129.67, May was 130.1. That's about a 0.3 percent month-over-month increase, annualized around 3.6 percent. That is not at target. And the Fed's interest on reserve balances is at 3.65 percent, with the effective fed funds rate at 3.63. So real rates, if you use core PCE as the deflator, are basically zero. Luna: Which means policy isn't actually that restrictive if inflation is sticky around 3 percent. Lucas: Exactly. So the case for cutting rates — which some on the FOMC have been floating — relies on inflation continuing to fall. If import prices push core PCE back up, that case weakens. And the bond market seems to agree: the ten-year Treasury yield rose to 4.70 percent this week, up 3.6 percent in five days. That's not a market expecting aggressive easing. Luna: So where does that leave us for the next FOMC meeting? I know they meet in September, but July is almost over. Lucas: July 29–30 is the next meeting, actually. That's next week. And with this data, I think they hold steady. The fed funds rate has been flat at 3.63 percent since June. The import price report came out July 17, so it'll be in the staff briefing. But one data point doesn't change the outlook — it's the trend. Luna: And the trend is still that core PCE is above target, even if it's not accelerating. Plus, the World Cup boost the Fed mentioned — bars and restaurants got a lift, but consumer stress signals are flashing. Lucas: Right. The Fed's own Beige Book, from mid-July, noted that the World Cup gave a needed boost to hospitality, but consumers are showing warning signs elsewhere. So you've got a mixed picture: tariffs pushing up import prices, consumers possibly pulling back, and inflation not yet at 2 percent. That's a recipe for 'wait and see.' Luna: So if the Fed holds next week, what's the signal? That they're still worried about inflation, or that they see the economy as strong enough to wait? Lucas: I'd say both. They don't want to cut and then have to reverse if inflation reaccelerates. And they don't want to signal panic. So 'patient' is the word. Warsh's 'patient, data dependent, well positioned' — that's the mantra. And I think they'll stick to it. Luna: But what if the import price data is just a blip? If next month's core PCE comes in lower, does that change anything? Lucas: It might. But the risk is that tariffs are structural, not cyclical. If the administration keeps adding tariffs, import prices could stay elevated. And the longer they stay elevated, the more likely they get baked into expectations. That's why the breakeven rate matters — if it starts moving above 2.5, the Fed has a problem. Luna: Right now it's at 2.28, so they have room. Lucas: They do. But the margin is shrinking. And with the ten-year at 4.70, the curve is steepening — that could be a sign that the market expects either higher inflation or more term premium from Treasury supply. Either way, it's not a dovish signal. Luna: So to bring it back to the import price surprise: you're saying it's a stone the Fed can't skip over. Lucas: Exactly. They have to at least acknowledge it. And if it persists, it could delay any rate cuts into 2027. The market is already pricing that in — the two-year yield is at 3.80, up this week. That's consistent with no cuts in the near term. Luna: One thing I find interesting: the core PCE data is for May, but the import price data is for June. So the Fed is looking at a lagging indicator of inflation and a leading indicator of cost pressures. That mismatch must make their job harder. Lucas: It does. And that's why they emphasize 'data dependent' — they're trying to triangulate. The CPI for June came out earlier this month, and it showed core CPI actually falling a bit. But import prices suggest the pipeline is getting more expensive. So the question is: does the pipeline pressure show up in CPI and PCE in July and August? We'll know in a few weeks. Luna: So what's the one thing you're watching most closely between now and the September meeting? Lucas: The July core PCE, due out in late August. That's the next big checkpoint. If it comes in flat or down, the import price spike might be noise. If it ticks up, the Fed has a real dilemma. Luna: And the tariffs — they're not going away. The new global tariff this week, plus the drug tariff plan — trade policy is adding uncertainty. Lucas: It is. And uncertainty, for central bankers, is a reason to hold steady. They don't want to act until they have clarity. So I'd expect the July 30 statement to sound very similar to June's: no change, cautious language, and a watchful eye on inflation. Luna: If walking through the economy with us has made something click for you today, honestly, if it was worth a coffee to you, that's the link — buy me a coffee dot com slash fexingo. It's a small way to keep the show ad-free and independent, and we appreciate it. Lucas: Yeah, it really does help. And we mean it — no pressure, just a simple option if you find value in what we do. We'll keep digging into the data either way. Luna: Absolutely. So back to the import price story — one more angle I want to hit. The report showed the cost of goods from China at the highest since 2008. That's a 18-year high. What does that tell us about the broader trade realignment? Lucas: It tells us that the 'decoupling' narrative is real in terms of prices, even if volumes are shifting. Companies are moving supply chains, but they're paying more in the interim. The tariffs accelerate that, but also create inflation. So the Fed is caught in the middle: they don't set trade policy, but they have to react to its effects. Luna: And the effect right now is higher import costs, which could mean higher consumer prices down the road. Lucas: Exactly. And that's why, even if the Fed holds rates steady, their language might get a bit more hawkish. Warsh's speech is a hint: they want markets to know they're not complacent. Luna: So final thought: if you had to bet on the fed funds rate at year-end 2026, where do you put it? Lucas: I'd say 3.63 — the same as now. Maybe one cut if inflation drops sharply, but the import price data makes that less likely. I think we're in a holding pattern through at least the first quarter of 2027. Luna: That's a clear call. And we'll be watching the July core PCE to see if it backs that up. Lucas: We will. And next week, the FOMC decision — we'll cover it right here. Until then, keep an eye on those import numbers.