By Howard Schneider
WASHINGTON (Reuters) -Federal Reserve policymakers will begin a two-day meeting on Tuesday with escalating tensions in the Middle East risking a new commodity price shock and fresh U.S. data expected to show a drop in retail sales and sluggish factory output in May.
The U.S. central bank is widely anticipated to leave its benchmark overnight interest rate in the 4.25%-4.50% range, where it has been since December, and repeat that it can’t give much guidance until it is clearer whether President Donald Trump’s import tariffs and fiscal policies push inflation higher, undercut growth, or – as his administration contends will happen – keep growth on track while prices ease. Trump has demanded immediate rate cuts.
Several days of intense missile exchanges between Israel and Iran, however, presented the Fed with even more reason for caution after oil prices jumped and presented a possible new source of inflation, though crude oil indices were declining along with U.S. bond yields on Monday after reports that the Iranian government was seeking talks with the U.S. and Israel to end the conflict. Major U.S. equity indices rose.
Still, the fighting highlighted the uncertainty Fed officials say has gripped their policy debate since Trump returned to power in January and unveiled a far more aggressive effort than expected to raise import taxes and rewrite global trade rules.
Fed officials have largely expected that Trump’s trade policies will have a stagflationary effect on the U.S. economy, simultaneously slowing growth and raising prices, with the monetary policy path – whether rate cuts or an extended hold of borrowing costs at the current level – dependent on which problem seems to be more serious.
Retail sales and industrial production data due to be released on Tuesday morning could add weight to the evidence the economy is slowing.
Economists polled by Reuters expect retail sales fell 0.7% in May after recent months where households appeared to rush some purchases to avoid coming import levies, while industrial output is forecast to rise just 0.1%.
“Consumers likely took a break from spending in May following a strong increase in March and a lackluster April,” said Scott Anderson, chief U.S. economist at BMO. He added that he expects industrial production fell slightly over the month due to “trade war uncertainty, rising input prices, and slowing U.S. and global demand.”
The Fed will issue a new policy statement as well as updated projections for the economy and the benchmark interest rate at 2 p.m. EDT (1800 GMT) on Wednesday, with Fed Chair Jerome Powell scheduled to hold a press conference half an hour later.
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