Alberto Musalem, President of the St Louis Federal Reserve, discussed the impact of tariffs on inflation. He estimated a 50/50 chance of tariffs leading to either sustained inflation or affecting inflation for a few quarters.

Musalem noted ongoing uncertainty surrounding tariffs, predicting this uncertainty would persist throughout the summer. In an optimal scenario, he suggested the uncertainty might dissipate by July, potentially allowing for an interest rate cut in September.

Market Forecasts

Currently, the market forecasts an 86% probability of a rate cut occurring in September. Musalem’s comments offer insight into the potential economic shifts influenced by tariff-related developments.

Musalem, speaking about tariff policies and their wider effects, laid out a simple probability: tariffs have an even chance—50/50—of either nudging prices up on a more lasting basis or creating temporary inflation that fades after a few months. This isn’t just guesswork. It reflects the impact on import costs, where duties can filter through supply chains and raise prices at various stages. Many of us monitoring trading activity know that any sticking pressure on consumer prices can push back central bank plans for lowering rates.

The uncertainty Musalem described relates to both policy outcomes and how businesses might respond to the new conditions. If firms begin stockpiling goods, rerouting supply lines, or pre-emptively raising prices, that lays the groundwork for broader inflation pressures. And while uncertainty is nearly always present, what’s notable today is both its scale and duration. According to him, the best-case timeline suggests we may see much clearer direction by July. That moment would not only bring lower volatility but would also align with expectations already baked into the market for a reduction in interest rates by September.

Impact On Derivatives

When people like Musalem talk about inflation and interest rates, we take that to mean real implications for funding costs. A September rate adjustment would lower short-term borrowings for institutions and play directly into derivative pricing—namely swaps and rate futures. On the other hand, if clarity around tariffs remains elusive by late July, the probability of a shift in the rate path could begin to decline.

With the market currently assigning an 86% chance to a September cut, pricing across various rate-sensitive instruments is already leaning toward that direction. This kind of certainty in expectations reduces options premiums and narrows spreads. For derivative traders, that carries direct consequences. A shift in confidence—even if it’s just a few percentage points—can unwind positions.

Musalem’s even-split probability forces a different lens. It isn’t about calling the direction of inflation but rather planning for both. If July brings no resolution and more instability in costs or constraints in global trade routes, the Fed may maintain rates longer. That suggests we might see adjustments in the shape of the curve—likely a flattening if long-term outlooks dim while short-term policy stays tight.

Reading policymakers correctly isn’t about waiting for decisions, it’s about timing exposure. Statements like these—pinned to timelines, probabilities, and conditions—show when movements are more likely. They also reveal thresholds—like inflation surprises in June or disappointment in trade talks—that could mark inflection points.

Watching how quickly the implied probability of a cut shifts in response to trade headlines will matter. It’s not just another forecast. It sets expectations that recalibrate risk levels and deliver signals for accelerating or reducing positions.

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