Fed Keeps Key Rate Steady, Citing Risk of Rising Prices

The Fed kept its rate at 4.3% for the third straight meeting, after cutting it three times in a row at the end of last year. Many economists and Wall Street investors still expect the Fed will reduce rates this year.

During a press conference after the release of the policy statement, Chair Jerome Powell underscored that the tariffs have dampened consumer and business sentiment but have yet to noticeably harm the economy. At the moment, Powell said, there’s too much uncertainty to say how the Fed should react to the duties.

“If the large increases in tariffs that have been announced are sustained, they’re likely to generate a rise in inflation, a slowdown in economic growth, and a rise in unemployment,” Powell said. The impacts could be temporary, or more persistent, he added.

“There’s just so much that we don’t know," he added. “We’re in a good position to wait and see.”

It is unusual for the Fed to face the risk of both higher prices and more unemployment. Typically, rising inflation occurs when consumers are spending freely and businesses, unable to meet all the resulting demand, raise their prices instead, as happened after the pandemic. Meanwhile, increasing unemployment occurs in a weaker economy, which usually slows spending and cools inflation.

Stagflation fears

A combination of both higher unemployment and steeper inflation is often referred to as “stagflation” and strikes fear in the hearts of central bankers, because it is hard for them to address both challenges. It last occurred on a sustained basis during the oil shocks and recessions of the 1970s.

Most economists say, however, that Trump’s sweeping tariffs do pose the threat of stagflation. The import taxes could both lift inflation by making imported parts and finished goods more expensive, while also raising unemployment by causing companies to cut jobs as their costs rise.

The Fed’s goals are to keep prices stable and maximize employment. Typically, when inflation rises, the Fed raises rates to slow borrowing and spending and cool inflation, while if layoffs rise, it would cut rates to spur more spending and growth.

At the start of the year, both financial experts and investors anticipated that the Federal Reserve would decrease its main interest rate two or three times throughout the year due to ongoing cooling effects from the post-pandemic surge in inflation. Several economic thinkers suggested that cutting rates might be necessary ahead of time because of potential slowing growth and rising joblessness caused by trade tariffs. However, Powell firmly stated that since the current state of the economy remains robust, the Fed could afford to maintain an observant position without immediate action.

A few months back, numerous experts anticipated that the economy was headed for a "soft landing." In this scenario, they believed inflation would decrease to hit its 2% target, all while keeping unemployment low despite steady economic expansion.

Tariff impact uncertainty

However, on Wednesday, Powell stated that this outcome was now less probable.

If these tariffs are implemented at those rates...we won't make further progress towards our objectives," Powell stated. "For at least another year, perhaps, we wouldn't be advancing towards those aims—assuming that's how things turn out with the tariffs.

Powell indicated that the Federal Reserve’s subsequent action would hinge partly on which metric deteriorates the most: inflation or joblessness.

"Based on how events unfold, it might involve reducing interest rates, or it might mean keeping them as they are; we simply need to observe how things progress before making these calls," he stated.

Krishna Guha, who works as an analyst at Evercore ISI, mentioned that the Federal Reserve's evaluation of present circumstances probably delays plans for reducing interest rates. "Given their view of risks being twofold and describing the economy as robust, it seems they aren’t planning a rate reduction for June." Numerous economists believe the central bank might only consider cutting rates around September instead.

In April, Trump introduced broad tariffs affecting approximately 60 U.S. trading partners; however, he postponed most of these tariffs for a period of 90 days, except those imposed on Chinese products. The authorities have levied a 145% duty on items coming from China. This upcoming weekend, representatives from both countries will engage in their initial high-level discussions since Trump initiated his trade conflict in Switzerland.

Trump-Fed conflict

The Federal Reserve’s hesitance might result in increased disagreements between the central bank and the Trump administration. Over the weekend, Trump once again called for rate reductions during a TV appearance. Although he has refrained from threatening to dismiss Powell, this stance could change if economic conditions deteriorate over the next few months.

At the press conference, when asked about Trump’s requests for reduced interest rates and their impact on the Federal Reserve, Powell stated, “That does not have any effect on how we perform our duties. Our focus will remain solely on analyzing economic data, forecasting trends, and assessing risk levels.”

Should the Federal Reserve decide to reduce interest rates, this action could potentially drive down the cost of various types of borrowings like home loans, car financing, and credit card debt; however, this outcome isn’t assured.

A big issue facing the Fed is how tariffs will impact inflation. Nearly all economists and Fed officials expect the import taxes will lift prices, but it's not clear by how much or for how long. Tariffs typically cause a one-time increase in prices, but not necessarily ongoing inflation.

For now, the US economy is mostly in solid shape, and inflation has cooled considerably from its peak in 2022. Consumers are spending at a healthy pace, though some of that may reflect buying things like cars ahead of tariffs. Businesses are still adding workers at a steady pace, and unemployment is low.

Still, there are signs inflation will worsen in the coming months. Surveys of both manufacturing and services firms show that they are seeing higher prices from their suppliers. And a survey by the Federal Reserve's Dallas branch found that nearly 55% of manufacturing firms expect to pass on the impact of tariff increases to their customers.

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