Why Donald Trump will focus on the Fed in 2026

US President Donald Trump’s tariffs will undoubtedly play a significant role in how we will remember 2025. While economists predicted a growing possibility of a recession back in April, the US economy displayed unexpected resilience, with third-quarter growth reaching a stunning 4.3 per cent, bolstered by robust consumer spending and strong capital expenditure related to artificial intelligence.

The impact of tariffs on inflation persists, although it appears less severe than economists feared. The personal consumption expenditures price index, a gauge closely watched by the US Federal Reserve, rose to 2.8 per cent in the third quarter, and 2.9 per cent for core, which excludes food and energy. Both were above earlier respective readings of 2.1 per cent and 2.6 per cent, and remain well above the Fed’s 2 per cent inflation target.

Given the strong US economy and sticky inflation, the Fed’s continuous rate cuts seem less convincing. However, as the 2026 midterm elections loom, Trump’s policy scales are tilted decisively towards the Fed. Trump’s desire for lower interest rates has surpassed his appetite for further tariff hikes. This might not be a change of heart, but a matter of simple arithmetic driven by fiscal necessity.

One thing is for sure. The impact of Trump’s tariffs has proved lower than expected, with implementation tempered by a wave of exemptions and bilateral deals. Currently, the US effective tariff rate is stabilising around 15 per cent. Perhaps this is exactly what Trump intended: using high-stakes threats as a precursor to tactical compromise.

That rate is significant when placed in a global context, as it aligns with the effective import tax levels of other nations when value-added tax – which the US lacks at the federal level – is included. By the end of 2026, I expect the US rate to decline towards 12 per cent, a level that could generate fiscal revenue without dismantling global supply chains.

Tariffs and interest rates are at odds in an inflation-targeting framework. Aggressive tariffs keep inflation expectations high, making it politically and economically difficult for the Fed to justify rate cuts. In 2026, Trump is likely to favour Fed rate cuts. The rationale is simple maths: with federal deficits exceeding 6 per cent of gross domestic product and tax cuts for the financial year of 2026 projected to top US$400 billion, every 100-basis-point hike in interest rates adds hundreds of billions to the government’s interest burden.

  

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