Jerome Powell and President Donald Trump during the nomination announcement in the Rose Garden of the White House in Washington, DC, United States on Thursday, November 2, 2017.
Andrew Harrier | Bloomberg | Getty Images
President-elect Donald Trump and Federal Reserve Chair Jerome Powell could be on a political collision course in 2025 depending on how economic conditions play out.
If the economy overheats and inflation rises again, Powell and his colleagues may decide to rein in their efforts to lower interest rates. That, in turn, could anger Trump, who criticized Fed officials including Powell during his first term in office for not easing monetary policy quickly enough.
“Without a doubt,” said Joseph LaVorgna, former chief economist at the National Economic Council during Trump's first term, when asked about the potential for conflict. “When they don't know what to do, they often don't do anything. That can be a problem. If the president feels interest rates should be lowered, will the Fed step in, just for public opinion?”
Although Powell became Fed Chairman in 2018, after Trump nominated him for the position, the two disagreed frequently over the direction of interest rates.
Trump publicly and forcefully rebuked the president, who in turn responded by emphasizing how important it was for the Fed to be independent and free from political pressure, even if it was coming from the president.
When Trump takes office in January, the two will be operating against a different backdrop. During the first period, inflation was minimal, meaning that even rate hikes by the Fed kept benchmark interest rates much lower than they are now.
Trump plans an expansionary and protectionist fiscal policy, even more so than during his previous presidency, which will include a tougher round of tariffs, tax cuts and big spending. If the results start to show in the data, Fed Powell may be inclined to stick tighter to monetary policy against inflation.
LaVorgna, chief economist at SMBC Nikko Securities, who has been rumored to be in the new administration, believes this would be a mistake.
“They will look at a very unconventional approach to the policy that Trump is putting forward but they will put it through a very traditional economic lens,” he said. “The Fed is going to have a really tough choice based on its traditional approach to what to do.”
The market is seeing fewer interest rate cuts
Futures traders have been wavering in recent days about their expectations about what the Fed will do next.
The market is pricing in a chance of another rate cut in December, after it was almost certain a week ago, according to CME Group's FedWatch gauge. Pricing also indicates the equivalent of three-quarters of a percentage point reductions through the end of 2025, which is also significantly lower than previous expectations.
Investors have been mixed in recent days about the Fed's intentions. Federal Reserve Governor Michelle Bowman indicated on Wednesday that progress on inflation has “stalled,” a sign that she may continue to push for a slower pace of interest rate cuts.
“All roads lead to tensions between the White House and the Fed,” said Joseph Brusuelas, chief economist at RSM. “It's not just going to be the White House. It's going to be the Treasury Department, and it's going to be criss-crossing trade and the Fed.”
Indeed, Trump is working to build a team of loyalists to implement his economic agenda, but much of his success depends on accommodative, or at least careful, monetary policy that does not press too hard to boost or restrict growth. For the Fed, that is seeking to find a “neutral” interest rate, but for the new administration, that may mean something different.
Brusuelas said the conflict over where interest rates should be will create “policy and political tensions between the Fed and a White House that clearly favors lower interest rates.”
“If someone is going to impose tariffs, or mass deportations, then you are talking about restricting aggregate supply while at the same time implementing tax cuts to finance the deficit, which encourages increased aggregate demand. You have a fundamental contradiction in your policy matrix,” he added. “There is a crossroads.” “It inevitably leads to tensions between Trump and Powell.”
Avoid conflict
To be sure, there are some factors that could ease tensions.
The first is that Powell's term as Fed chair expires in early 2026, so Trump may simply choose to bypass it until he can appoint someone to the chair to his liking. There is also little chance that the Fed will actually move to raise interest rates outside of some unforeseen event that would push inflation much higher.
Also, Trump's policies will take some time to make their way through the system, so any effects on inflation and macroeconomic growth will likely not be evident in the data and thus not necessitate a response from the Fed. There is also the possibility that the effects will not be significant in either case.
“I expect inflation to rise and growth to slow,” said Mark Zandi, chief economist at Moody's Analytics. “I think the tariffs and deportations represent negative supply shocks. They hurt growth and push inflation up.” “The Fed will continue to cut interest rates next year, but perhaps not as quickly as it would have otherwise.”
Hence, battles with Trump could be a bigger headache for the next Fed chair, assuming Trump does not reappoint Powell.
“So I don’t think it will be a problem in 2025,” Zandi said. “It could be a problem in 2026, because at that point, the rate cutting will be over and the Fed might be in a position where it definitely needs to start raising rates. That's when it becomes a problem.”
