MW Stock-market complacency is on a collision course with tariffs. Investors, buckle up.

By Joe Brusuelas

Tariff-induced inflation is evident - and the costs are hitting consumers in the wallet

There are those who say that tariffs are not leading to rising prices. But their arguments simply do not hold up.

Investor sentiment has been infected by a complacency about the stock market. If this doesn't change soon, it could result in a market correction like the one that took place earlier this year.

Many investors in equity markets have taken the view that the Trump administration's repeatedly delayed tariffs will never be implemented, and, even if some of them go into effect, they will not lead to higher inflation.

That confidence helped push the S&P 500 SPX to a record recently and appears to be reinforcing perceptions among policymakers that higher tariffs can be imposed without paying an economic or financial price.

Tariffs above 25% are scheduled to be implemented on Aug. 1 against the five largest exporters into the U.S. (excluding China) - Canada, the European Union, Japan, Mexico and South Korea. Together, they account for more than 55% of all U.S. imports.

The notion that an effective tariff rate of 29% on goods imported from those countries will not translate into higher inflation simply does not pass the smell test. And those tariffs do not even include the current 48% levy on all Chinese imports.

Already, the inflation data is reflecting the impact of tariffs. On Tuesday, the consumer-price index for June showed a 2.7% year-over-year increase- a little higher than May's 2.4% rise.

But a deeper look at the data shows steeper increases in those areas affected by tariffs: a 0.4% monthly rise in apparel costs, 1.9% in appliances, 4.5% in audio equipment and 1% in home furnishings and supplies. Durable-goods costs increased by 0.6%.

Taken together, goods prices advanced at the fastest pace since the pandemic surge of 2021 and 2022.

It's the kind of inflation that hits people where they live and will command the attention of Federal Reserve Chair Jerome Powell.

There are those who say that tariffs are not leading to rising prices. But their arguments simply do not hold up.

Take the argument from earlier this year that exporters will absorb 100% of the cost of tariffs. That claim has now been redirected to one that says cooling housing costs and easing services sector inflation will offset the increase in prices of durable and nondurable goods.

What does the data say?

Housing costs advanced by 0.3% in June and by 4% over the past year, shelter increased by 0.2% and 3.8%, respectively, while the policy-sensitive owners' equivalent rent increased by 0.3% and 4.2%.

Perhaps more important, sticky service-sector inflation increased by 3.8% and services excluding energy increased by 3.6%. Both are hardly sources of comfort to U.S. households facing inflation exceeding 2% for what is shaping up to be the fifth consecutive year.

Over that time, the consumer-price index has averaged 4.7%.

The Fed has work to do

Investors betting on interest-rate cuts are likely to be disappointed.

Bond investors seem to be getting the message. Following Tuesday's inflation report, the 10-year Treasury BX:TMUBMUSD10Y yield approached 4.5% and the 30-year Treasury BX:TMUBMUSD30Y yield is hovering around 5%.

Read: Wall Street braces for Treasury to try lowering 10-year yields with more buybacks. The problem? It could backfire.

This red flag does not include the two economic dogs that have yet to bark: auto production, which heavily relies on imports, and food, which depends on fruits and vegetables imported from Canada and Mexico. Expect both to increase in the coming months.

In addition, a deeper look at the personal-consumption expenditures index, which the Fed uses to set the federal funds policy rate, shows that demand has been driving inflation since last September.

All this strongly implies that the Fed's work on restoring price stability is not complete.

Some fixed-income investors have remained sanguine about the impact of tariffs and have bet that the Fed will cut rates this fall. But those investors are likely to be disappointed, which will affect asset prices.

As tariffs push inflation higher, both investors and policymakers would be wise to lower their expectations that have pushed stocks to record highs.

Investors and policymakers should be asking hard questions about the direction of the trade as well as the expansionary fiscal policies that have been put in place.

Doubts about the U.S. fiscal position are showing up in rising inflation expectations. One measure is an instrument called the five-year, five-year inflation swap, which has reached 2.54%, decisively higher since April.

All this should give investors and policymakers pause around the complacency that underscores elevated asset prices that cannot defy financial gravity. A collision between investors' outlook and the reality of tariffs is approaching.

Joe Brusuelas is chief economist of RSM US LLP. This article represents the views of the author and does not necessarily represent the views of RSM US LLP. This article does not constitute professional advice.

More: These market whales may hold the key to the stock market's next move, says former trader

Plus: How Wall Street's most hated stocks have performed against tariffs - and the smart money

-Joe Brusuelas

This content was created by MarketWatch, which is operated by Dow Jones & Co. MarketWatch is published independently from Dow Jones Newswires and The Wall Street Journal.

(END) Dow Jones Newswires

July 17, 2025 10:30 ET (14:30 GMT)

Copyright (c) 2025 Dow Jones & Company, Inc.