Trump and Fed Chairman Powell may very well be on a collision course in relation to rates of interest
Jerome Powell and President Donald Trump during a nomination announcement in the Rose Garden of the White House in Washington, DC, USA, on Thursday, November 2, 2017.
Andrew Harrer | Bloomberg | Getty Images
President-elect Donald Trump and Federal Reserve Chairman Jerome Powell could be on a political collision course in 2025, depending on how economic circumstances develop.
If the economy heats up and inflation rises again, Powell and his colleagues could decide to slow down their efforts to cut interest rates. That, in turn, could infuriate Trump, who in his first term sharply criticized Fed officials, including Powell, for not easing monetary policy quickly enough.
“Without question,” said Joseph LaVorgna, a former chief economist at the National Economic Council during Trump’s first term, when asked about the possibility of a conflict. “If they don't know what to do, they often don't do anything. That can be a problem. If the president thinks interest rates should be cut, is the Fed just getting involved for public reasons?”
Although Powell became Fed chief in 2018 after Trump nominated him for the position, the two frequently clashed over the direction of interest rates.
Trump publicly and aggressively insulted the chairman, who in turn emphasized how important it is for the Fed to be independent and stay away from political pressure, even if it comes from the president.
When Trump takes office in January, the two will operate against a different backdrop. There was little inflation during the first term, meaning that even Fed rate hikes kept interest rates well below their current levels.
Trump is planning both expansionary and protectionist fiscal policies, even more so than during his previous term, which will include an even tougher round of tariffs, lower taxes and high spending. If the results are reflected in the data, the Powell Fed may be tempted to tighten its monetary policy against inflation.
LaVorgna, chief economist at SMBC Nikko Securities, who is rumored to be taking a job in the new government, thinks that's a mistake.
“You're going to look at a very unconventional policy approach that Trump is proposing, but look at it through a very traditional economic lens,” he said. “The Fed is going to make a really difficult decision based on its traditional approach to what to do.”
The market sees fewer interest rate cuts
Futures traders have been waffling in recent days about their expectations for what the Fed will do next.
According to CME Group's FedWatch Indicator, the market expects the likelihood of another rate cut in December to be almost random, after being almost certain a week ago. Future price trends suggest a reduction of three quarter percentage points by the end of 2025, which is also well below previous expectations.
Investors' nervousness about the Fed's intentions has been strained in recent days. Fed Governor Michelle Bowman noted Wednesday that progress on inflation has “stalled,” an indication that she may continue to push for a slower pace of rate cuts.
“All roads lead to tensions between the White House and the Fed,” said Joseph Brusuelas, chief economist at RSM. “It won’t just be the White House. It’s going to be Treasury, it’s going to be Commerce and the Fed, all of which overlap.”
Indeed, Trump is building a team of loyalists to implement his economic agenda, but much of the success depends on accommodative or at least precise monetary policy that does not push too hard to boost or slow growth. For the Fed this means finding a “neutral” interest rate, but for the new administration it could mean something different.
The battle over interest rate levels will lead to “political tensions between the Federal Reserve and the White House, which would clearly favor lower interest rates,” Brusuelas said.
“If you want to impose tariffs or mass deportations, you're talking about restricting aggregate supply while simultaneously implementing tax cuts to finance the deficit, which promotes an increase in aggregate demand. “You have a fundamental inconsistency in your political matrix,” he added. “There is an inevitable crossroads that creates tension between Trump and Powell.”
Avoid conflicts
There are certainly some factors that could ease tensions.
One is that Powell's term as Fed chair expires in early 2026, so Trump could simply choose to wait it out until he can put someone he likes better in the chair. There is also little chance that the Fed will actually raise interest rates, unless some highly unexpected event occurs that would significantly increase inflation.
Additionally, it will take a while for Trump's policies to permeate the system, so any impact on inflation and macroeconomic growth is unlikely to be readily apparent in the data and therefore will not require a Fed response. There's also the possibility that the impact isn't that big in either case.
“I expect higher inflation and slower growth. I think the tariffs and deportations are negative supply shocks. They hurt growth and drive up inflation,” said Mark Zandi, chief economist at Moody’s Analytics. “The Fed will still cut rates next year, just perhaps not as quickly as it otherwise would have.”
So fights with Trump could create a bigger headache for the next Fed chair, assuming Trump doesn't reappoint Powell.
“So I don’t think it will be a problem in 2025,” Zandi said. “In 2026 it could be a problem because then the rate cut is over and the Fed could be in a position where it absolutely has to start raising rates. Then it becomes a problem.”
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