Donald Trump still has weeks to go before he is sworn in, but the president-elect's pledge to enact a sweeping policy overhaul is already looming over the Federal Reserve.
The Federal Reserve cut interest rates by a quarter of a percentage point on Wednesday in its third straight cut, but officials expect to cut rates by half next year as they forecast in September. It caused significant market fluctuations.
Federal Reserve Chairman Jay Powell said that while more cautious expectations for interest rate cuts were driven by signs of stalling progress in lowering inflation to the central bank's 2 percent target, some officials were also starting to include assumptions about Trump's policies in their forecasts.
“It looks like every strand of (Trump's) policy will threaten their mandate,” said Julia Coronado, a former Fed economist who now runs MacroPolicy Perspectives, referring to the central bank's goals of keeping inflation low and stable and maintaining a healthy economy. Labor market.
Coronado added Federal Reserve BankTrump's message was clear: “We are not Trump 1.0 anymore. This is Trump 2.0, we have inflation above target and we need to get on with it.”
Investors and analysts said Trump's threats to impose tariffs, carry out mass deportations and cut taxes and regulations could have wide-ranging economic impacts. Some economists worry that comprehensive reform will lead to higher inflation, lower growth and more volatility.
Economists acknowledged that the basis for shifting to a more gradual pace of interest rate cuts next year had already taken shape before Trump's election victory in early November. Inflation readings in September and October were higher than expected, replacing concerns about the health of the labor market that amplified over the summer.
Fed's favorite Economic inflation The core personal consumption expenditures price index rose at an annual rate of 2.8 percent in October and is expected to accelerate to 2.9 percent in November, according to a FactSet survey of economists.
Powell noted these shifts on Wednesday and also explained that after the December cut, the Fed has entered a “new phase” in which it needs to be more “cautious” about its actions given that interest rates are now closer to officials' best rate estimates. A “neutral” level that neither slows nor accelerates growth.
While the Fed's policy settings were still “significantly restrictive,” Powell made clear that further cuts would depend on further progress on inflation.
But Powell also signaled a marked shift in the way the Fed was considering the changes Trump had pledged to enact, moving away from its position in the wake of the November election that the Fed would not “speculate” or “assume” anything about what would happen in the future. Management will.
This was most evident in the revised set of officials' economic forecasts published by the central bank alongside the interest rate decision. Instead of cuts of a full percentage point for next year, which was expected in September, most officials expected only half a point. They also lowered their estimates for 2026 and 2027.
Officials also sharply raised their average inflation forecasts. The “central tendency” of the core PCE price index – which excludes the three highest and lowest three estimates – jumped to a range of 2.5-2.7 percent. This is up from 2.1 to 2.3 percent in September.
The adjustments extended across financial markets on Wednesday, sending the S&P 500 index down about 3 percent, pushing the dollar to its highest level in two years, and raising yields on US government debt. Asian stocks were under pressure early Thursday.
Dean Mackey, chief economist at hedge fund Point72, called the Fed's shift “astonishing” and said it was rooted in speculation about Trump. “It's hard to see why they were expecting a big rise in inflation if they didn't incorporate things like tariffs into the forecast.”
Strategists at JPMorgan echoed that sentiment. “Beneath the surface, we can see that concerns about tariffs may be seeping into the Fed’s psyche,” they said.
Speaking to reporters on Wednesday, Powell acknowledged that some officials had taken a “very tentative step” to incorporate “highly conditional estimates of the economic impacts of policies into their forecasts at this meeting.”
Asked directly about how the Fed is thinking about its policy response to tariffs, the chairman said the committee is “discussing pathways” and working to better understand how these policies will impact the economy.
“It puts us in a position, when we finally see what the actual policies are, to make a more careful and thoughtful assessment of what might be the appropriate policy response,” he said.
A cut at the Fed's next meeting, in January, is “absolutely not on the table,” said Ellen Zentner, chief economic strategist at Morgan Stanley Wealth Management, noting the inclusion of language in the policy statement that has been used in the past to signal a pause. Long.
Derek Tang, an economist at research group LHMeyer, expects the Fed to delay additional cuts until June and eventually deliver a total of three cuts for this year. These expectations depend on inflation expectations remaining under control.
Tang said he was also concerned about the labor market being weaker than expected if Trump's policies dampen growth, which could create complications for the Federal Reserve.
“People may be underestimating the scenario in which the labor market weakens and the Fed is now caught between rising inflation but also trying to prevent the economy from entering a recession,” Tang said. “It's a double whammy.”
