Trump Wants Lower Interest Rates. Wall Street Is Now Betting They're Going Higher.

President Donald Trump is on a mission to lower borrowing costs as quickly as possible. Wall Street now expects them to go higher.

The Commerce Department on Thursday reported that the Federal Reserve’s preferred inflation gauge rose at an annual rate of 4.1 percent last month — more than double the central bank’s target. Even excluding volatile food and energy prices, the so-called core measure of the personal consumption expenditures index climbed at its fastest pace in almost three years.

The recent surge in prices has weakened the spending power of American consumers, who were already furious about the rising cost of living. And now, markets are pricing in a 64 percent likelihood that Trump’s new Federal Reserve chair, Kevin Warsh, will raise rates as early as September, which would tighten financial conditions for households and businesses in the weeks leading up to the midterm elections.

If the Fed raises rates in the coming months, that would be a blow to Trump and the GOP’s economic sales pitch at the height of a campaign that will be defined by affordability.

The rapid change in the economic outlook since the start of the year has been “an outlier in speed,” said Glenn Hubbard, a Columbia University professor who chaired the Council of Economic Advisers under President George W. Bush. “My question is more what took the markets so long.”

Oil and gas prices have plunged from recent heights as the conflict in Iran has wound down, but it’s clear the market doesn’t believe that will be enough for the Fed to give Trump what he wants.

In a statement, White House spokesperson Kush Desai said the report exceeded expectations and "reinforces that temporary disruptions to energy markets as a result of the Iranian conflict are not passing through to non-energy goods." Now that Trump has signed a memorandum of understanding with Iran, "energy prices are plummeting – and overall inflation will quickly follow suit."

But it's unlikely to fall fast enough to allow for the large rate cuts the president has demanded since returning to the White House. Only six months ago, Trump could have reasonably assumed that whoever he picked to lead the Fed would be able to make a case for lowering interest rates in time for the midterms.

Unemployment had inched higher, and tepid payroll growth suggested the labor market was on shaky footing. The effects of the president’s aggressive tariff regime had been more benign than economists expected, and sticky, post-pandemic inflation in the housing market had faded. In December, Fed policymakers penciled in a single quarter-point cut for 2026, and they expected inflation to fall closer to their 2 percent target by year’s end.

The war has made all the difference.

Energy prices exploded as the timeline for ending the conflict and reopening the Strait of Hormuz extended into the summer. Food prices climbed, consumer sentiment plummeted and a growing number of economists started to forecast higher short-term interest rates from the Fed.

Warsh vowed to keep prices stable at his debut press conference last week. His fellow Fed policymakers agree, and some are leaning toward raising rates to prevent future spikes. Meanwhile, the labor market has rebounded. The AI investment boom is pushing up inflation gauges — the demand for chips led Apple to raise prices on Thursday — and a looming glut of government debt is pushing up long-term yields.

The president relentlessly attacked former Fed Chair Jerome Powell over rate decisions and swore that Powell’s successor would quickly deliver cuts. Lowering borrowing costs has been central to his political messaging on affordability. And he has advocated policies to bring down mortgage costs and cap credit card rates.

Central bankers are “no longer looking through supply shocks anymore,” said Stephen Juneau, a senior U.S. economist at Bank of America Securities. Juneau’s team now expects the Fed to raise rates by three-quarters of a percentage point between now and the end of the year.

Other Wall Street analysts expect the Fed to hold rates steady. But “the longer that inflation stays north of 3 to 3.3 percent” — the median of what Fed policymakers projected last week — “the more likely you’re going to get hikes,” Juneau said.

The shocks that have pushed up consumer prices are beyond the Fed’s control, JPMorgan Asset Management's Chief Global Strategist and Head of Global Market Insights Strategy David Kelly told POLITICO.

The war with Iran, the immigration crackdown and tariffs have each had a hand in pushing up prices, and “all of those are coming from the other side of Washington,” he said. There would be “no point in trying to use monetary policy to fix a problem that has been caused by other forces. When the other forces abate, inflation goes away.”

If the Fed raised rates, it would only add “financial instability to unpleasantly high inflation with no real benefit to the economy or anything else.”

It may not take long for market sentiment to reverse. While investors have priced in a strong likelihood that short-term borrowing costs will climb, other market-based measures of inflation expectations have started to fall. The yield on two-year government debt securities dropped after the government released its report on Thursday.

If the administration’s efforts to restore traffic through the Strait of Hormuz keep downward pressure on oil and gas prices, the prospect of rate hikes may fade as quickly as it emerged. The economic projections released by Fed policymakers last week probably don’t account for recent developments in the peace process, said Stephen Miran, a former Fed governor and Trump adviser who’s now at Hudson Bay Capital. Therefore, they’re already “stale.”

“Think how rapidly things shifted in the first half of the year,” he said. The effects of a rate hike wouldn’t filter through to the broader economy for a year, he added, and “when I forecast for the second half of next year, I’m hard-pressed to identify what would be driving inflation materially above target.”