The state of play according to NPR:
“President Trump renewed his attack on Federal Reserve chairman Jerome Powell Thursday for not cutting interest rates. … In a social media post, Trump complained that Powell is "always TOO LATE AND WRONG. The president was evidently frustrated that the European Central Bank was preparing to lower interest rates for the seventh time, while the Federal Reserve is in a holding pattern.”
Trump's post came a day after Powell warned that the tariffs from the Trump administration are likely to cause both higher prices and slower economic growth.
"Tariffs are highly likely to generate at least a temporary rise in inflation," Powell told the Economic Club of Chicago.”
“We may find ourselves in the challenging scenario in which our dual-mandate goals are in tension,” Powell said.
Elsewhere it has been reported that the Fed is not likely reduce rates at the May 6-7 meeting on the FMOC.
(1) Why You Should Fear a Trumpified Fed - Paul Krugman
“As a consequence of Trump’s destructive tariff regime, the Fed will soon face a dilemma. Should it raise interest rates to fight inflation, or should it cut rates to fight recession? It’s a really hard call, and it’s quite possible that Jay Powell will get it wrong.”
For economic policy this should not be a hard call. There is no inflation to be fought unless the Fed creates it, but the risk of recession is real. Right now, the Fed has two separate and overlapping reasons to cut interest rates.
a) Tariffs are a huge negative supply shock, pushing up on relative prices of tariffed imports and substitutes for tariffed imports, and pushing down on prices of non-tariffed imports and their substitutes and on exports. Inflation permits prices of the former to rise without requiring prices of the latter to fall. Not all prices can or do fall easily and when they do not, markets for those goods and service fail to clear, unemployment develops. Flexible Average Inflation Targeting lets the Fed temporarily engineer over-target inflation to facilitate these relative price adjustments and prevent unemployment.
b) But the on again off again tariffs, retaliation of other countries against US exports, and gyrations in the bond market, uncertainty is a record levels. Uncertainty is a huge negative demand shock. And negative demand and supply shocks don’t offset each other; they are cumulative. In addition, the tariffs and other nonsense have created a lot of uncertainty about whether this is the best time to build tht new widget factory (even if this week there is a nice tariff on widgets). Uncertainty = negative demand shock, making a rise in unemployed resources more likely: recession and creating an additional reason to stimulate the economy = more inflation.
I claim no expertise in predicting Fed moves. I think that it SHOULD reduce interest rates and or crank up the QE and or whatever other instruments it can use to avoid recession. That is what the “Flexible” in Flexible Average Inflation Targeting (FAIT) means, temporarily engineering above the average target inflation. I doubt that inflation is what Trump wants from the Fed, but he is, I think, substantively right to want lower interest rates/monetary stimulus. Failure to act runs the risk of recession. At this point, stagflation is the best we can hope for.
Rate cutting, however, IS a hard decision for the Fed because, as Krugman says, “Trump has made Powell’s [decision] even worse with his attempted bullying, because a rate cut would be seen by many as a sign that Powell is giving in to avoid being fired,” which could further increase uncertainty and bring on the recession Powell surely wants to avoid.
“Between Trump’s tariffs, the economic spillover from deportations and terrorization of immigrants and the attempt to politicize the Fed, the upside risk to inflation now looks very high. The bitter irony is that many Americans voted for Trump because they thought he would bring prices down.”
Image prompt: Person seated in a chair with a person on one side bearing an electrode labeled “Supply” and on the other side one with an electrode labeled “Demand.”
[Standard bleg: Although my style is know-it-all-ism, I am aware that I could be mistaken or overstate my points. I would, therefore, welcome comments on these views.]