Trump jolts Fed outlook
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Fed chair Jerome Powell. Photo illustration: Sarah Grillo/Axios. Photos: Drew Angerer/Getty Images
President-elect Trump says interest rates are far too high, but his own economic agenda might play a key role in keeping them elevated for longer.
Why it matters: Fed chair Jerome Powell has been hesitant to directly comment on the incoming administration's policies, but it's clear some of his colleagues on the Fed's policy-setting committee see huge tariffs and restrictive immigration policy as inflationary.
- With Trump's election came the potential for huge shifts in policy that risk making price pressures more persistent, pushing off plans to cut rates further.
Driving the news: Fed officials plan to tread carefully in considering when (or whether) to continue its rate-cutting cycle, minutes from its Dec. 17-18 closed-door policy meeting show.
- It was less certain, until now, the extent to which Trump shocks factored into expectations for stickier inflation and fewer rate cuts in 2025.
- "[P]articipants expected that inflation would continue to move toward 2 percent, although they noted that recent higher-than-expected readings on inflation, and the effects of potential changes in trade and immigration policy, suggested that the process could take longer than previously anticipated," according to the minutes.
The intrigue: Powell has called out the difficulty in projecting how Trump's policies will impact the economy, with little clarity about what such policies will ultimately look like.
- Fed economists, however, took a shot and modeled out how Trump policies might shake out with a "preliminary placeholder assumption."
- Stalled progress in cooling price pressures would keep inflation higher in 2024, the staff said — and inflation would not decline much further this year.
- "Inflation in 2025 was expected to remain at about the same rate as in 2024, as the effects of the staff's placeholder trade policy assumptions held inflation up," according to the minutes.
- "The risks around the inflation forecast were seen as tilted to the upside, as core inflation had not come down as much as expected in 2024 and the effects of trade policy changes could be larger than the staff had assumed."
The big picture: The Fed has slashed interest rates by 1 percentage point since September, including the quarter-point cut last month — a decision that was "finely balanced," with some agreeing there was merit in keeping rates on hold, the minutes said.
- In making a case to take a more gradual approach to cutting rates — that is, moving away from rate cuts at consecutive meetings — many officials cited "the current high degree of uncertainty," a possible nod to Trump policies.
The bottom line: The Fed minutes don't mention Trump by name, but the possible fallout from his policies has already shifted assumptions about the economy in 2025.
The key to understanding how the Fed may react to the imposition of new tariffs can be found in a 6-year-old teal-colored document.
Zoom in: In his news conference following that December policy meeting, Powell described a September 2018 staff simulation as a "good place to start" in understanding how the central bank views the proper monetary policy response to tariff hikes.
- That was contained in the "Tealbook," the staff-produced briefing presented to policymakers at their eight-times-a-year meetings.
- It is, literally, a teal-colored briefing book. Until 2010, staff produced a separate green book (on the economy) and blue book (on policy options) for each meeting, before merging both their contents and their hue.
Flashback: The Tealbook is confidential at the time it is presented, but is released, along with Federal Open Market Committee meeting transcripts, with a five-year delay. So the 2018 trade simulations are now public. (The relevant section starts at the bottom of page 93 of the PDF here.)
- For that document, Fed staff modeled a scenario in which the U.S. increased tariffs on all non-oil imported goods by 15 percentage points and foreign economies retaliated in kind.
- That 2018 hypothetical isn't so far from the kinds of across-the-board tariffs Trump has spoken of implementing now.
The Fed's modeling showed that tariffs created a surge in inflation and a slump in growth.
- But the inflationary impact was temporary, and when the Fed elected to see through the bump in prices, it helped cushion the negative shock to the economy without significantly changing the medium-term inflation result.
- "The more accommodative policy response considered here attenuates the output decline considerably ... without much effect on inflation," the Tealbook said. "Accordingly, the see-through policy would seem an appropriate response to a tariff hike."
Yes, but: This was at a moment when inflation had been persistently below the Fed's 2% target. With inflation now well above that mark, the equation may be rather different this time around.
- "The desirability of this strategy depends on firmly anchored inflation expectations and the pass-through of cost shocks into inflation being relatively short lived," the Tealbook said.
