Tariffs Start to Seep Into the Hard Data

Brent Schutte, CFA, is chief investment officer of the Northwestern Mutual Wealth Management Company.

Equities were mixed last week, with the S&P 500 and NASDAQ gaining for the week, while the Dow Jones Industrial Average was down modestly. Each of the major indices were headed for weekly gains before a report emerged that President Trump was in favor of tariffs of 15 to 20 percent on goods imported from the European Union and was in favor of keeping tariffs on autos from abroad at 25 percent. While negotiations are expected to continue as the trading partners approach the president's August 1 deadline for striking deals, the latest rates from the administration are higher than many investors expected.

As we noted in last week’s Commentary, tariff headlines have driven market movements because investors are trying to gauge the impact they will have on economic growth and inflation. Put differently, will weakness that is showing up in surveys of consumers and businesses begin to impact hard data such as inflation, employment and economic growth? Or are soft measures that had proven reliable up until the post-COVID economy sending false warning signals much as they did in 2023 and early 2024? Given that baseline tariffs have been in effect since early April, we expect to begin to get a better sense of how things may play out in the coming weeks. Indeed, while headline data out last week offered a mixed take on whether levies were being felt in the economy in a meaningful way, details of some of the reports highlighted areas that bear watching. For example, the Consumer Price Index (CPI) from the Bureau of Labor Statistics (BLS) came in as expected, while the Producer Price Index (PPI), also from the BLS, showed wholesale prices overall were unchanged from the prior month. However, on closer review, there are signs in both reports that suggest tariffs are starting to show up in inflation data where you would most expect it—in goods.

The CPI report shows that prices of goods rose 0.2 percent in June, with categories that are mostly imported into the U.S. seeing a jump in prices. For example, prices for household furnishings and supplies rose 1 percent in June, with heavily imported items such as major appliances rising 1.9 percent and furniture and bedding prices up 0.4 percent compared to a 0.8 percent decline the prior month. Toys, another heavily imported product, saw prices climb 1.8 percent in June following a 1.3 percent increase in May. These are just a few examples to illustrate that, to some degree, levies are starting to cause ripples in prices for some products.

Turning to the PPI report, while the headline numbers showed no change from the prior month, the prices of goods rose 0.3 percent, while costs of services fell 0.1 percent. While the size of the price increases for goods at both the wholesale and consumer levels may seem mild, it’s important to note that for much of the past two years, disinflation has been driven by a reduction in prices for goods. As such, should goods prices continue to edge higher due to tariffs, it could slow or stall the disinflationary trend from late spring and cause the Federal Reserve to hold off on cutting rates later this year.

To be sure, a definitive picture of the impact of duties on inflation and economic growth may not become clear for several months. The expected stimulative effects of deregulation could boost growth and result in the soft economic measures once again overstating the risk to the economy. However, even absent an economic slowdown or a reawakening of inflation, we believe this period of considerable change will likely usher in a new list of performance winners and losers among the asset classes. How that list shakes out may not be apparent for some time. As such, we believe investors would be best served by following a diversified approach for their investment portfolios as well as in their financial plans. Relating to investments, a portfolio with various asset classes—including equites (both domestic and international), bonds and real assets such as commodities—should provide exposure to the next asset class leaders, whatever they may be. Similarly, a financial plan that includes investments and risk products can help you achieve your financial goals, hopefully with less volatility and more peace of mind.

While the uncertainty remains high, the answer in dealing with unpredictability in the economy and markets is unchanged. We do not believe it calls for dramatic changes to your investment plan. Instead, the current environment serves as a valuable reminder that an unpredictable future will lead to unpredictable opportunities for investors in the intermediate and long terms. Capitalizing on these unforeseen opportunities is best done through diversification.

Wall Street wrap

More on inflation: The latest Consumer Price Index from the BLS showed that prices rose 0.3 percent in June, up from a 0.1 percent rise in May and the sharpest increase since January. On a year-over-year basis, the headline figure was up 2.7 percent, up 0.3 percent from the prior month’s 12-month reading. Core inflation, which excludes volatile food and energy costs and is the measure that the Federal Reserve focuses on, rose 0.2 percent in June, up from 0.1 percent recorded in May. Over the past 12 months, core CPI is now up 2.9 percent on a year-over-year basis versus 2.8 percent year over year in May.

Prices for services overall rose 0.25 percent after last month’s increase of 0.17 percent. Services inflation has been relatively subdued over the past three months, which could potentially offset a rise in goods prices; however, it is important to note that goods inflation was mostly negative from 2013 through 2018, which helped keep prices in check and even led to concerns about deflation.

Finally, so-called “super core” services inflation (excluding shelter) rose 0.21 percent in June and is now 2 percent on a three-month annualized basis. On a six- and nine-month annualized basis, the measure is running at 2.5 percent and 2.8 percent clip, respectively. The trend suggests disinflation is clearly gaining momentum but also raises the question of whether the deceleration is a reflection of a pullback in spending on services as consumers become more conservative with their spending.

Inflation measures by some of the regional Federal Reserve banks, designed to gauge overall trends of inflation, also show inflation up slightly to levels last seen in January of this year. The Cleveland Federal Reserve’s calculation, called the Cleveland Median CPI, came in at 0.33 percent in June, up from May’s 0.22, with the year-over-year change checking in at 3.58.

Consumer sentiment improves: Consumer sentiment climbed for July and notched the second month of improvement after six months of declining readings. Preliminary results from the latest consumer sentiment survey released by the University of Michigan show that the index rose 1.1 points from the prior month to 61.8, the highest level in five months. Still, the July reading is down 16.4 percent since December 2024 following a post-election rise. Views of current economic conditions rose two points, while expectations for the future inched 0.5 points higher.

Despite the modest improvement in views of the economy going forward, expectations about personal finances fell by 4 percent from June’s reading. The relatively steady readings in the survey point to ongoing questions consumers have about the impact of trade policy. The bounce back from the very weak readings of the prior month may be a sign that consumers are over the initial shock of the tariffs announced in early April, even if they are still concerned about the potential effects of trade policy. “Consumers are unlikely to regain their confidence in the economy unless they feel assured that inflation is unlikely to worsen, for example if trade policy stabilizes for the foreseeable future,” Survey of Consumers Director Joanne Hsu said in comments released with the survey results. Survey results show that tariffs and trade policy news continue to drive consumers’ views, with other policy developments such as the recently passed spending and tax bill having little impact on sentiment so far.

Year-ahead inflation expectations dropped to 4.4 percent from last month’s final reading of 5 percent. More importantly, inflation expectations five to 10 years ahead declined to 3.6 percent from 4 percent in June. Readings for both timeframes are at the lowest levels since February but still above readings at the end of December 2024.

Beige book shows slowing economic activity: The latest release of the Federal Reserve’s Beige Book, which provides real-time anecdotal assessments of business conditions across the country, shows that the pace of the economy increased slightly from the previous report released in June. Five of 12 districts reported slight to moderate gains in economic activity, five noted little change, and two districts reported modest slowing. Employment on balance picked up slightly, with just more than half of the districts reporting some increase in hiring. However, hiring was muted, with contacts pointing to economic and policy uncertainty as the cause of caution in hiring. Many businesses in the various districts expect to postpone decisions as to whether to add to or cut payrolls until current uncertainty has faded. Wages increased modestly, consistent with recent trends in prior reports.

Most districts reported a modest to moderate uptick in prices charged to end consumers. All of the districts reported modest to pronounced increased costs due to tariffs. The impact of tariffs on input costs was most notable in manufacturing and construction. Many companies reported passing along at least some of their increased costs to customers through price hikes or surcharges. Others held off on increasing prices due to customers pushing back on rising prices. The inability to raise prices led to margin compression for some. According to the report, “contacts in a wide range of industries expected cost pressures to remain elevated in the coming months, increasing the likelihood that consumer prices will start to rise more rapidly by late summer.”

Retail sales rebound: The latest retail sales numbers from the U.S. Census Bureau show that consumer spending rose 0.6 percent in June, compared to a 0.9 percent decline in May. The increase came in stronger than Wall Street expectations and marked the first time in three months that sales rose.

Overall, 10 of the 13 categories registered increased sales, led by a 1.8 percent rise in purchases at miscellaneous retailers. Other key contributors to the uptick included a 1.2 percent increase in motor vehicles and parts sales—a reversal from the 3.4 percent decline for the category in May. Sales at clothing and clothing accessory stores also climbed 0.9 percent. Overall retail sales are up 3.9 percent year over year on a seasonally adjusted basis. The latest reading breaks a trend of slowing consumer spending that began in April as reciprocal tariffs were announced. Prior to April, consumer spending was strong as customers bought to get ahead of expected price increases from proposed tariffs. The recovery in sales could be a sign that consumers who had stocked up ahead of levies may be replenishing depleted supplies. Overall, the Control Group (which is a proxy for the spending measure found in gross domestic product growth) rose 0.5 percent for the month, above Wall Street expectations of a 0.3 percent increase.

Continuing jobless claims rise: The latest data from the Department of Labor shows that continuing jobless claims (those people remaining on unemployment benefits) stand at 1.956 million, up 2,000 from the previous week’s downwardly revised total. The four-week rolling average of continuing claims came in at 1.957 million, an increase of 4,750 from last week and the most since late November 2021. Meanwhile, initial jobless claims were at 221,000, a decline of 7,000 from the previous week’s revised total. The four-week moving average of initial claims numbered 229,500, down 6,250 from last week’s revised total. As we’ve noted in the past, we believe continuing claims are a more reliable indicator of the labor market, as they measure workers who are facing long-term challenges in finding a job and, as such, filter out some of the temporary noise that can be found in initial claims data.

Manufacturing output edges higher: Manufacturing output rose by 0.1 percent in June after increasing 0.3 percent in May, according to the latest data from the Federal Reserve. Production of durable goods declined 1.4 percent as a result of a 3.2 percent decline in automotive parts. Production of electrical equipment, appliances and components—all goods that typically include imported parts—fell 2.5 percent. Meanwhile, production of petroleum and coal products rose 2.9 percent. Overall, industrial production rose 0.3 percent in June and is down 1.2 percent on a three-month annualized basis and 0.7 percent on a year-over-year basis.

Homebuilders’ confidence continues to sag: Homebuilder confidence weakened in June as buyers remain concerned about tariffs and interest rates. The latest reading from the National Association of Home Builders survey shows confidence came in at 33 in July, up one point from June. The latest reading marks the 15th consecutive month of sentiment landing in negative territory.

With potential buyers sitting on the sidelines waiting out economic uncertainty and hoping for lower rates, builders are increasingly offering price reductions to attract sales traffic. The latest data shows 38 percent of builders cut prices in July, up one point from June and the highest percentage since the survey began tracking price cuts on a monthly basis in 2022. The average price cut was 5 percent in June, the same level seen every month since November 2024. The portion of builders using sales incentives to entice buyers came in at 62 percent, unchanged from June.

The week ahead

Monday: The Conference Board’s latest Leading Economic Index Survey (for June) will be out mid-morning. Last month’s report showed weakening in the near term, and the longer-term view suggests heightened risks for the economy. We will be scrutinizing the data to see if recent declines signal a trend or if readings have stabilized.

Wednesday: We’ll get insights into the housing market when the National Association of Realtors releases existing home sales for June. This report should give a clearer picture of whether the housing market is still stuck in a holding pattern due to elevated interest rates despite slowing home price gains and growing inventories.

Thursday: We’ll get an update on the health of manufacturing and services in the U.S. when S&P Global releases its Flash Purchasing Manufacturers Index reports for July. Activity on the services and manufacturing sides of the economy eased modestly last month as both sides of the economy saw increased costs. We will be watching to see if ongoing uncertainty about tariffs has had an impact on recent trends for both sectors.

Initial and continuing jobless claims will be out before the market opens. Continuing claims have been rising of late even as initial claims have declined, and we’ll continue to monitor this report for signs of changes in the strength of the employment picture.

Friday: Data on durable goods orders for June will be released to start the day. We’ll be watching for signs of the direction of business spending in light of signs of continued uncertainty and slowing economic growth.

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