Why is Jerome Powell talking about keeping interest rates high in the face of a potentially slowing economy when he’s spent the last three years trying to slow the economy to fight inflation?
“We may find ourselves in the challenging scenario in which our dual-mandate goals are in tension,” Federal Reserve Chairman Jerome Powell said in a prepared statement before the Economic Club of Chicago of last week, before turning his attention to tariffs and the broader economy. Regarding tariffs, he stated, “Tariffs are highly likely to generate at least a temporary rise in inflation. The inflationary effects could also be more persistent. Avoiding that outcome will depend on the size of the effects, on how long it takes for them to pass through fully to prices, and, ultimately, on keeping longer-term inflation expectations well anchored.” Regarding the broader economy, he claimed, “The data in hand so far suggest that growth has slowed in the first quarter from last year’s solid pace. Despite strong motor vehicle sales, overall consumer spending appears to have grown modestly. In addition, strong imports during the first quarter, reflecting attempts by businesses to get ahead of potential tariffs, are expected to weigh on GDP growth.” Between the two, he noted, “If that were to occur, we would consider how far the economy is from each goal, and the potentially different time horizons over which those respective gaps would be anticipated to close.” If there was any doubting the message that interest rates would continue to remain high, these remarks were generally a repeat of a speech he delivered last month to journalists in Arlington, VA, when he described the supposed tension this way, “Our obligation is to keep longer-term inflation expectations well anchored and to make certain that a one-time increase in the price level does not become an ongoing inflation problem. We are well positioned to wait for greater clarity before considering any adjustments to our policy stance. It is too soon to say what will be the appropriate path for monetary policy.” At the time, he also noted that the tariffs were “significantly larger than expected” and “The same is likely to be true of the economic effects, which will include higher inflation and slower growth. The size and duration of these effects remain uncertain.” Even setting aside the fact that Mr. Powell waited at least a full year to raise rates despite rapidly increasing inflation under President Joe Biden, admitting in an interview with 60 Minutes that they actually contributed to inflation by flooding the system with too much money, claiming like President Biden himself that an inflation was “transitory,” and more generally speaking, rarely, if ever comments on specific policies, it’s enough to make one wonder if he even knows what inflation is, because taxes cannot cause it by definition, or at least not the inflation the Federal Reserve was meant to combat is generally understood.
This is because economists differentiate between two types of inflation, demand-pull and cost-push. Colloquially described as “too much cash chasing too few goods,” demand-pull inflation is caused by consumer or producer demand outstripping production of goods or delivery of services, causing a rise in prices. In other words, the economy is flooded with money, as the Federal Reserve itself did just a few years ago, and prices rise because supply is limited. Cost-push inflation, on the other hand, occurs when the costs of production, either raw materials, labor, or disruptions in supply, increase prices and that increase is ultimately passed on to consumers. By these definitions, the United States has primarily been experiencing demand-pull inflation (primarily because there were certain price increases due to supply chain disruptions in late 2021), rather than cost-push. We know this for two reasons. First, inflation began rising only after President Joe Biden and the Democratic Party showered another $2.1 trillion in stimulus funds on an economy that was already almost entirely recovered from the pandemic and one to which the Federal reserve was already ensuring was flush with cash. Though there were some short term supply chain issues, the combination of the two drove prices to levels not seen in almost five decades. Second, demand-pull inflation is the only kind that the Federal Reserve is able to manage because the lever they control is the money supply; they cannot decrease prices on materials or labor, or solve supply issues. Hence, when inflation is low, monetary policy is lax, and when inflation is high, interest rates increase to constrict it. While they rarely say it plainly, the goal of increasing interest rates is to slow the economy down, as opposed to reducing rates in times of recession or depression to speed the economy up. Back in August 2022, Mr. Powell actually acknowledged this specifically, saying that a weaker economy and job losses are the cost of interest rate hikes to slow inflation, that they “would bring some pain.” “These are the unfortunate costs of reducing inflation,” he said, “but a failure to restore price stability would mean far greater pain.” At the time, the Associated Press reported the dynamic this way, “Powell is betting that he can engineer a high-risk outcome: Slow the economy enough to ease inflation pressures yet not so much as to trigger a recession.” Last year, Kristin Forbes, an economist at MIT and former official at the Bank of England, the UK’s equivalent of the Federal Reserve, phrased the same sentiment as a question, “How much unemployment or slowdown in growth should we be willing to accept to shorten the length of time that inflation is too high?” Though Mr. Powell’s strategy was risky and we might question whether interest rate increases alone succeeded in battling inflation, the latest numbers, a mere 2.4% last month, suggest that he (or we?) have succeeded in bringing about the mythical “soft landing,” where inflation is eased without actually going through a recession.
In fact, they were so confident in the belief that a soft landing could be achieved, the Federal Reserve began cutting interest rates last September, some would say not coincidentally immediately before an election. After declaring a cut of fifty basis points, twice the size economists had expected, Mr. Powell said rates should be made “more neutral” rather than restrictive, describing it as a strong move” that showcased “our commitment not to get behind” current economic conditions. Two smaller cuts followed in November and December, when according to J.P. Morgan Wealth Management, “The Summary of Economic Projections revealed upward revisions in policymakers’ 2025 growth and inflation forecasts and a downward revision in the unemployment rate, indicating recent stronger-than-expected economic growth.” After the December rate cut, J.P. Morgan concluded, “We expect the Fed to continue gradually easing to normalize policy in 2025 while supporting the cooling labor market. However, we view sequential cuts as unlikely and expect the Fed will go slow as it approaches the neutral rate.” Fast forward four months with no additional interest rate cuts and still falling inflation, and it is hard to see how the logic of keeping rates high continues to apply if the economy is now slowing, but prices might be rising due to tariffs. If the goal of the rate hikes was, as per Mr. Powell’s own words, to slow the economy by reducing the supply of money even at the expense of jobs, and tariffs in and of themselves increase prices and slow the economy, what justification would there be to keep interest rates high when the self-stated goal is already served by another means? Putting this another way, tariffs and taxes in general function essentially as a substitute for interest rate hikes, though they curb demand via a different, and some might argue, better means by generating revenue for the government rather than simply constricting the cash supply. We know this because of its inverse – demand-pull inflation can be caused by tax cuts putting more money in the hands of consumers to chase the proverbial too little goods, the same way as government stimulus such as President Biden’s additional COVID relief. Thus, to the extent that tariffs raise prices, they do not do so in a manner the Federal Reserve has been grappling with for the past three years. Instead, they do so completely inline with the rationale behind interest rate hikes, which of course begs the obvious question, why is Mr. Powell, who presumably knows this as a real card carrying expert, and one would hope couldn’t possibly be so economically illiterate to suddenly embrace a policy fundamentally different from that which he embarked on for three full years, talking about keeping rates elevated when, by his own logic, he should be cutting them to stimulate the economy in the face of tariff uncertainty?
Perhaps needless to say, President Donald Trump believes he knows the answer. After Mr. Powell’s remarks, the President posted on Truth Social, ““The ECB [European Central Bank] is expected to cut interest rates for the 7th time, and yet, ‘Too Late’ Jerome Powell of the Fed, who is always TOO LATE AND WRONG, yesterday issued a report which was another, and typical, complete ‘mess!’ Oil prices are down, groceries (even eggs!) are down, and the USA is getting RICH ON TARIFFS. Too Late should have lowered Interest Rates, like the ECB, long ago, but he should certainly lower them now. Powell’s termination cannot come fast enough!” Previously, he had accused Mr. Powell of being political, and while I cannot claim to read the man’s mind, the difference in treatment between the Biden economy and the Trump economy, plus his recent comments, are perhaps inexplicable otherwise. In one case, he continued an easy money policy even after President Biden added an additional $2.1 trillion in stimulus while keeping government spending overall elevated even after the pandemic was over, and parroted the administration’s line that inflation was “transitory” for reasons he has never explained. Further, he did so without commenting once to my knowledge of the economic impact of President Biden’s policies, remaining a completely outside observer even though some left-leaning economists such as Larry Summers and Steven Rattner were correctly predicting fiscal disaster. In the second case, less than three months after President Trump is in office, he is openly questioning the impacts of his policies and incorrectly stating his own role in keeping the economy healthy. Based on that, it would seem to me that President Trump is correct and Mr. Powell is yet another political operator masquerading as a neutral expert, or he’s too ignorant and unqualified to manage the US economy. What’s the old expression about picking your poison?
Confessions of a Conservative Atheist 