Sustained risk-asset weakness and recession fears may have spurred hopes for a helping hand from the Fed, but the central bank is likely to disappoint those looking for any commitment to near-term easing. Notwithstanding the possibillty of stagnant growth and labor market disruption, above-target inflation has persisted and threatens another march higher as tariffs enter the fray. Federal Reserve officials have continued to emphasize their intention to remain patient on the sidelines while policy plays out in Washington and abroad, and they do not see a need to let up their restrictive stance. The Fed is unlikley to forgo any future flexibility at the March 18-19 FOMC, when the federal funds target range is widely expected to be held at 4.25-4.50%. Near-term rate cuts may not (yet) be in the cards, but look for any changes to forward guidance or hints in the SEP for anticipated turbulence.
17 MAR 2025
EDWARD VON DER SCHMIDT
Treading Water
The Federal Reserve is on hold. While rates are restrictive, officials intend to keep the target range steady (4.25-4.50%) in order to exert downward pressure on inflation, which remains stubbornly above target. Preserving flexibility, this wait-and-see approach benefits from the central bank's assessment that employment is near its maximum level. Although the Fed has repeated that any further labor market cooling would be unwelcome, satisfying one side of its dual mandate has guided monetary policy toward taming prices further, even with additional easing envisioned down the line.
The Fed has outlined clear conditions for whether to remain in neutral or to shift gears. If inflation persists at levels somewhat above target without demonstrating progress toward 2% on a sustainable basis (i.e., a discernible trend lower), restrictive policy will remain in place. If inflation falls faster than anticipated or employment conditions deteriorate, further rate adjustments (i.e., cuts) will likely be appropriate. Of course, this framing assumes there are no exogenous shocks and that higher inflation does not coincide with weaker labor markets or stagnant growth. A lot can change in a hurry, even if the Fed does not appear to be in one.
The central bank has repeatedly acknowledged that the economic outlook is uncertain. Chair Powell has delineated four areas warranting particular attention: immigration, tariffs, fiscal policy, and regulation. The Trump administration's intentions may be taking shape, but many policies have yet to be announced, finalized, or implemented. Immigration flows or lack thereof will directly affect the supply of and demand for labor with knock-on effects for growth. Tariffs will influence trade activity and investment as well as input prices and expectations for inflation. So will fiscal policy decisions and associated borrowing needs, to say nothing of entitlement program changes and consequences for spending. The net effects of deregulation may not be known for a while. The Fed is biding their time until we have a better idea of how these dynamics play out, with the understanding that they may evolve unexpectedly and quickly.
Still, there is some cause for concern. Consumption, accounting for two-thirds of gross domestic product (GDP), may suffer for declining wealth, waning confidence, and heightened uncertainty about near-term economic prospects. Consumer resilience and robust spending represented a potential upside surprise just months ago. Longer-term inflation expectations are also beginning to veer higher along with proposed tariffs and the possibility of escalating trade wars. Dollar weakness and commodity pressures have dovetailed with elevated long-term yields that may yet be exacerbated by financing requirements for burgeoning deficits. A bifurcation exists between those with readily available access to credit and those without. Geopolitical risks abound, and the specter of a recession looms as large-scale federal and agency job cuts accelerate.
It is quite possible that the Fed's dual mandate goals will soon be in conflict. The March 18-19 FOMC, where the Fed is widely expected to hold rates steady, will shed light on Fed officials' expectations of any future headwinds. With inflation currently at the forefront, risks to employment and activity have been discounted as both appear to remain "solid". It is worth noting that prematurely raising the alarm would be self-defeating, but expect FOMC participants to mark down growth estimates and mark up uncertainty nonetheless.
More telling will be any alterations or additions to forward guidance in the statement or press conference as well as substantive shifts in the expected path of policy rates provided in the Summary of Economic Projections (SEP). Although officials penciled in two 25 basis point (bp) cuts for 2025 in December 2024 and have made frequent reference to resuming easing at some point later this year, the Fed has gone out of its way to avoid committing to any one course of action and has maintained that monetary policy is not on any preset path. Those looking for explicit easing signals in light of recent risk asset performance may be disappointed.
In order to assuage market fears and bolster confidence, however, the Committee or Chair may reiterate their capacity to act swiftly and decisively to head off significant economic weakness should the need arise. If officials really are concerned, three or more cuts will be penciled in for 2025 at this meeting. There is a greater likelihood of sticking close to the status quo, however, which would entail one or two projected cuts later this year that reflect baseline uncertainty and a cautious approach until further clarity has been gained on the administration's policies and their consequences. This could bring a June cut at the earliest, with the understanding that the Fed can always move in May if compelled by circumstance - this appears unlikely, however. If a recession is held at bay (and even if not), the next cut may follow in September upon conclusion of the Fed's five-year review - provided that inflation readings are satisfactory. A September resumption of easing remains our base case, but the timing of the next adjustment is highly conditional on what transpires in the weeks ahead.
Insofar as the SEP represents best-guess estimates of how the future is expected to evolve given conditions that appear probable today, it would seem more likely that inflation discipline will keep overt easing signals in check. The Fed has not yet satisfied its price mandate and will be keen to reinforce its commitment to returning inflation to target after years of misses, economic stressors notwithstanding. In the absence of policy resolution or an imminent downturn, inflation remains officials' principle concern. Though the Fed reserves the right to correct its course as events unfold, expect the central bank to continue to lean on inflation while keeping its options open. Early exercise is never optimal - the Fed will not commit or send signals before it has to.
Governors and Graphs
What gives us confidence in such an assessment? To begin, we can glean insight from major data releases and members of the Federal Reserve Board of Governors themselves, all of whom are permanent FOMC voters:
Governor Lisa D. Cook
January 6, 2025 - An Assessment of the Economy and Financial Stability
"Over time, I still think it will likely be appropriate to move the policy rate toward a more neutral stance. However, the 100 basis points of rate cuts since September have notably reduced the restrictiveness of monetary policy. All along, I envisioned moving more quickly in the early stages of our easing campaign and then easing more gradually as the policy rate came closer to neutral. In addition, since September, the labor market has been somewhat more resilient, while inflation has been stickier than I assumed at that time. Thus, I think we can afford to proceed more cautiously with further cuts."
Governor Christopher J. Waller
February 17, 2025 - Disinflation Progress Uneven but Still on Track Rates Cuts on Track as Well
"I continue to believe that the current setting of monetary policy is restricting economic activity somewhat and putting downward pressure on inflation. If this winter-time lull in progress is temporary, as it was last year, then further policy easing will be appropriate. But until that is clear, I favor holding the policy rate steady."
"The labor market is balanced and remarkably resilient. If you want an example of a stable labor market with employment at its maximum level, it looks a lot like where we are right now. On the other side of the FOMC's mandate, inflation is still meaningfully above our target, and progress has been excruciatingly slow over the last year. This tells me that we should currently have a restrictive setting of policy, as we do - to continue to move inflation down to our goal - but that setting should be getting closer to neutral as inflation moves closer to 2 percent and should allow the labor market to remain in a good place."
"At the end of the day, the data should be guiding our policy action - not speculation about what could happen."
Waller also made a point of highlighting rate hikes at the onset of the Russia-Ukraine war and in the aftermath of Silicon Valley Bank as evidence that the Fed stood ready to take action in the face of economic uncertainties.
Governor Michelle W. Bowman
February 17, 2025 - Brief Remarks on the Economy and Accountability in Supervision, Applications, and Regulation
"I think that policy is now in a good place, allowing the Committee to be patient and pay closer attention to the inflation data as it evolves."
"In my view, the current policy stance also provides the opportunity to review further indicators of economic activity and get further clarity on the administrations' policies and their effects on the economy."
"For now, the U.S. economy remains strong, with solid growth in economic activity and a labor market near full employment. Core inflation is still somewhat elevated, but has appeared to resume its downward path, and my baseline expectation has been that it will moderate further this year. Even with this outlook, there are upside risks to my baseline expectation for the inflation path."
"Assuming the economy evolves as I expect, I think that inflation will slow further this year. As the inflation data since the spring of last year show, its progress may be bumpy and uneven, and progress on disinflation may take longer than we would hope. I continue to see greater risks to price stability, especially while the labor market remains strong."
"We need to keep inflation in focus while the labor market appears to be in balance and the unemployment rate remains at historically low levels."
Governor Philip N. Jefferson, Vice Chair
February 19, 2025 - How Healthy are U.S. Households' Balance Sheets?
"Progress toward our 2 percent objective has been slow in the past year. I expect the path of inflation to continue to be bumpy. While a cumulative cut in the policy rate by 100 basis points last year has brought the stance of monetary policy closer to a neutral setting, monetary policy continues to be restrictive. I believe that, with a strong economy and a solid labor market, we can take our time to assess the incoming data to make any further adjustments to our policy rate."
"Understanding the causes of the continued robustness in consumer spending is important because it accounts for two-thirds of overall economic activity. Therefore, any accurate forecast of future economic activity would need to get the growth in consumer spending right."
Governor Adriana D. Kugler
March 7, 2025 - The Rebalancing of Labor Markets across the World
"Recently, labor supply and demand in the United States have been roughly in balance, and the unemployment rate has been running close to the estimates of FOMC participants for its longer-run rate, which is consistent with the Committee's maximum-employment goal."
"[...] inflation has moved sideways since the second half of last year, with uneven progress across its major categories."
"Core goods inflation has also been slowly rising. [...] This rise is not a welcome development because, over the long term, goods price deflation has offset price increases in other categories and kept a lid on overall inflation."
"Given the recent increase in inflation expectations and the key inflation categories that have not shown progress toward our 2 percent target, it could be appropriate to continue holding the policy rate at its current level for some time."
Chairman of the Board
As luck would have it, the last commentary before the mandatory FOMC blackout came from Chair Jerome Powell himself. Speaking to the Economic Outlook at the US Monetary Policy Forum hosted by the University of Chicago on March 7, 2025, Powell began his prepared remarks by conceding "elevated levels of uncertainty". He characterized the U.S. economy as in a "good place" and the domestic labor market as "solid and broadly in balance". Given signs of a "possible moderation in consumer spending", the Chair cautioned that "sentiment readings have not been a good predictor of consumption growth in recent years". Whether this applies to Friday's precipitous decline in the University of Michigan's Consumer Sentiment gauge remains to be seen.
While surveyed sentiment may not be a concern, inflation expectations are of primary importance to the Fed as they can become self-fulfilling and intractable. Powell noted that "some near-term measures have recently moved up" and that "survey respondents [...] are mentioning tariffs as a driving factor". Still, Powell remarked that "most measures of longer-term expectations remain stable and consistent with our 2 percent goal." Of course, these comments were offered a week before longer-term expectations in the U. Mich. survey climbed to 3.9% in March (from 3.5% in February).
Importantly, Powell established policy expectations for a deliberate cadence in the near-term:
Looking ahead, the new Administration is in the process of implementing significant policy changes in four distinct areas: trade, immigration, fiscal policy, and regulation. It is the net effect of these policy changes that will matter for the economy and for the path of monetary policy. While there have been recent developments in some of these areas, especially trade policy, uncertainty around the changes and their likely effects remains high. As we parse the incoming information, we are focused on separating the signal from the noise as the outlook evolves. We do not need to be in a hurry, and are well positioned to wait for greater clarity.
The Fed is not going to signal any policy adjustments until it has more information to guide its decision-making, which could take months. The degree of unknowns juxtaposed with a relatively stable real economy argue for a measured approach, at least at this time. Powell spoke to this directly in the Q&A:
"the costs of being cautious [right now] are very, very low. The economy's fine - it doesn't need us to do anything really. And so we can wait and we should wait. I think there are cases where uncertainty is high where that would not be the case, where the costs of going slow might be high. And those would be, for example, you know if inflation expectations were clearly under pressure or if you're at the beginning of the pandemic and uncertainty is unquestionably elevated but you nonetheless act very aggressively because of the potential costs of not doing so."
Whether the economy is indeed fine, slow-and-steady in the present does not at all mean that the Fed cannot turn on a dime - it will if it needs to and in real-time.
Powell also addressed the focus of the five-year framework review (i.e., the consensus statement and post-meeting communications) and stressed that the inflationary impact of tariffs was a function of their effect on inflation expectations (as opposed to one-off price level increases that the Fed would be inclined to look through). Here, Powell pointed to a series of rate cuts in 2019 in the face of trade and tariff concerns to illustrate how broader economic circumstances would drive monetary policy as opposed to any particular narrative.
At the conclusion of his interview, Powell's response to a "fun" question may prove the most informative. Asked who was his 'favorite central banker', he answered Paul Volcker, the chairman of the Federal Reserve from 1979 to 1987 whose commitment to hiking rates helped to quell crippling inflation. Powell elaborated:
"Nobody wants to be working at a central bank when inflation is really high. But everybody who works in a central bank knows what they have to do when inflation is high. And [Volcker] set the gold standard for that [...] When you have very high inflation and you have to do this [i.e., hike rates] - this is why we're independent. It's not for the good times. It's for the times when we're doing something which may be unpopular. That is our assignment."
Given the confluence of economic weakness and persistent inflation with upward pressure on price expectations, the unpopular but necessary path may just be holding the line.
Sources
Federal Open Market Committee Meeting calendars, statements, and minutes (2020-2026)
Federal Reserve Bank of St. Louis FRED Economic Data
Surveys of Consumers, University of Michigan, University of Michigan: Inflation Expectation© [MICH], retrieved from FRED, Federal Reserve Bank of St. Louis
https://fred.stlouisfed.org/series/MICH/, (Accessed on March 17, 2025)
Beige Book
Summary of Commentary on Current Economic Conditions by Federal Reserve District
Monetary Policy Report submitted to the Congress on February 7, 2025, pursuant to section 2B of the Federal Reserve Act
An Assessment of the Economy and Financial Stability
Governor Lisa D. Cook
At the Seventh Conference on Law and Macroeconomics, University of Michigan Law School, Ann Arbor, Michigan
Disinflation Progress Uneven but Still on Track Rates Cuts on Track as Well
Governor Christopher J. Waller
At the University of New South Wales Macroeconomic Workshop, Sydney, New South Wales, Australia
The Rebalancing of Labor Markets across the World
Governor Adriana D. Kugler
At the Conference on Monetary Policy Transmission and the Labor Market, Banco de Portugal, Lisbon, Portugal
Brief Remarks on the Economy and Accountability in Supervision, Applications, and Regulation
Governor Michelle W. Bowman
At The American Bankers Association 2025 Conference for Community Bankers, Phoenix, Arizona
How Healthy are U.S. Households’ Balance Sheets?
Vice Chair Philip N. Jefferson
At the Martin H. Crego Lecture in Economics, Vassar College, Poughkeepsie, New York
Economic Outlook
Chair Jerome H. Powell
At the University of Chicago Booth School of Business 2025 U.S. Monetary Policy Forum, New York, New York