President-elect Trump, and the reaction he already has provoked in markets, will be a major topic among Federal Reserve officials at the two-day monetary policy meeting that begins Tuesday morning in Washington.
Thanks to strong job growth and accelerating economic growth, it’s widely expected that the Fed will raise rates Wednesday afternoon, a year after the last time it moved its interest rate target. More important than a 0.25 percent increase in short-term interest rates, however, are any signals the Fed might send about Trump’s impact on the central bank’s plans for the years ahead.
There is a lot to sort out. Since Trump’s election, stocks have soared, with the Dow Jones Industrial Average up nearly 8 percent since Election Day. Bond markets, too, have signaled that investors expect big changes. Since the election, yields on 10-year Treasury securities have soared from 1.88 percent to just under 2.5 percent at the close of trading Monday, the highest level in 17 months and a reflection of expectations that Trump will cut taxes and boost spending, pushing up on inflation.
Chairwoman Janet Yellen and other Fed officials will have to judge whether markets are right to expect fiscal stimulus and faster economic output growth under Trump, a difficult call to make. If so, they would have have to signal that more interest rate increases are likely next year.
“There are so many unknowns about what the guy says and what he does. I do think that will be a big topic tomorrow,” said Peter Nigro, a finance professor at Bryant University and former government economist.
The Fed did not discuss the possible impact of a Trump victory at its last monetary policy committee meeting, held just the week before the election. Since Trump won, however, some members have begun to open up about their expectations for a Trump administration working with a Republican-controlled Congress.
Speaking last week in New York City, Federal Reserve Bank of New York President William Dudley suggested that the post-election surge in markets was driven by expectations that Trump would usher in fiscal stimulus and that the Fed would respond by raising rates faster than previously expected to prevent inflation from rising out of control.
If those expectations pan out, Dudley said, the post-election market moves have been “broadly appropriate.” Dudley is the vice chairman of the Fed’s interest rate-setting committee.
Board of Governors member Daniel Tarullo suggested at a November Wall Street Journal event that fiscal stimulus implemented by the Trump administration could sway the Fed to pump on “the brakes,” meaning interest rate hikes.
“Give the administration time to propose its program and Congress to decide,” said Tarullo, who over the past year has been one of the top voices in the Fed for leaving rates lower for longer.
Trump’s program includes massive tax cuts and a much larger infrastructure spending package than proposed by his opponent, Democrat Hillary Clinton.
From the perspective of bond traders, both of those agenda items would boost gross domestic product and, accordingly, inflation and interest rates.
Yet other Trump proposals would cut in the other direction. Prior to the election, Moody’s Analytics projected that Trump’s platform policies would pitch the U.S. into a recession, if he went through with his plans to deport illegal immigrants in large numbers and back out of trade deals.
For now, though, Fed officials have not commented on the possible downsides of those campaign promises.
“I don’t see any reason to be less optimistic,” Federal Reserve Bank of Chicago President Charles Evans said last week, Bloomberg reported.
