The Federal Reserve cut its benchmark interest rate Wednesday by another quarter of a percentage point, to a range of 1.75% to 2%. That much was expected – but little else is going according to plan. A spell of turbulence in the money markets is complicating matters. And the Fed is still wrestling with heightened uncertainty, a lot of it needlessly inflicted on the central bank, and on the economy as a whole, by a reckless and incompetent administration.
Just before Fed Chairman Jerome Powell made his policy announcement, a sudden shortage of liquidity sent the effective funds rate above its target range. The Fed dealt with the problem by supplying new reserves – something it can do whenever necessary – but the scale of the disturbance was puzzling, and called into question the central bank’s operating procedures. Among other things, it raised the possibility that the Fed’s plan to shrink its balance sheet, still vastly bigger than it was before the 2008 crash, might tighten liquidity too much and too fast.
While Powell and his colleagues are grappling with that, they have President Donald Trump to contend with. Powell emphasized again Wednesday that trade frictions are a main cause of anxiety among U.S. and foreign businesses. This threat is holding the expansion back. But the medium- and longer-term effects of the president’s fondness for tariffs, national emergencies and executive actions to throttle commerce are impossible to judge. Nobody knows whether the climate for trade will improve or worsen over the coming weeks and months.
Under these circumstances, monetary policy can’t make things right, and lower interest rates might not provide the needed boost. Many investors were disappointed that the Fed failed to signal that more cuts were coming. The new “dot-plot” projections show that its officials are divided over whether more cuts will be needed; some of them thought Wednesday’s change was itself a cut too far. The truth is, the Fed can’t know what interest rates should be in three months, or next year. This depends, in large part, on how much damage to the global trading system Trump does between now and then.
The president’s constant sniping at Powell and the Fed sure doesn’t help – although it’s easy enough to ignore the tweets. The real danger is a further deterioration in the outlook for trade. Make no mistake: The worst-case scenario is capable of pushing the U.S. and the rest of the world into the next recession. And if it does, there’ll be little the Fed can do.