The Fed Should Not Have Cut Interest Rates, So Let’s Hope They Don’t Do It Again

“If everyone in (the national capital) knows something, it’s not true.” – Paul Wells

As one can guess by the fact I didn’t include the actual city (Ottawa), Paul Wells isn’t an American columnist — but I still consider him the best in North America. His line perfectly encapsulates the angry reaction — from Wall Street to the White House — to the decision by the Federal Reserve to only lower interest rates by 1/4 of a percentage point (CNN).

Policymakers led by Fed Chairman Jerome Powell voted 8-2 in favor of a small cut in the federal funds rate, and recommitted to their promise to “act as appropriate” to sustain the country’s longest economic expansion in history.

Interest rates, which affect the cost of borrowing for credit cards and mortgages, are now set to hover between 2% and 2.25%.

The rate cut follows months of pressure from President Donald Trump, who has broken with his predecessors’ practice of walling off the central bank from politics.

But the Dow at one point fell 478 points after Powell hinted that the rate cut could be a one-off.

“We are thinking of it as a mid-cycle adjustment to policy,” Powell said. “I’m contrasting it with the beginning of a lengthy cutting cycle.”

Trump himself echoed the markets (USA Today).

President Trump wasn’t happy with the Federal Reserve’s quarter-percentage-point rate cut Wednesday, saying Fed Chairman Jerome Powell “let us down” by not signaling further decreases.

“What the Market wanted to hear from Jay Powell and the Federal Reserve was that this was the beginning of a lengthy and aggressive rate-cutting cycle which would keep pace with China, The European Union and other countries around the world,” Trump said in a late afternoon tweet.

As it happened, two members of the Open Market Committee — Boston Fed President Eric Rosengren and Kansas City Fed President Ester George — voted against the cut. They were right to do so.

To the extent that the economy is slowing down, it is not the typical situation caused by exhaustion in aggregate demand. In this case, the economy is suffering a comedown from the ill-conceived and poorly enacted tax cuts of 2017, coupled with the damaging tariffs on a slew of imported inputs. In other words, the Fed is trying to clean up Donald Trump’s mess.

Only a reversal of the tariffs and a resumption of the status quo ante on trade will give the economy the boost in aggregate supply and in aggregate demand that is needed.

As for interest rates, they have been below normal for far too long. The resultant asset bubbles exacerbated wealth inequality and income inequality. Further concentration of capital and market share in firms that should have been put to pasture (i.e., “zombie companies”) are now beginning to get greater attention from economists (Bloomberg).

Unfortunately, it appears the panic on Wall Street combined with Washington hysteria to force the Fed’s hand. As much as I would like to lay the blame fully with Donald Trump – and he does deserve a large share of it – he is not alone among the guilty parties here.

Here’s hoping Powell is serious about this being a one-and-done move — or, barring that, Rosengren and George getting more support for their willingness to hold the line. The American economy needs serious reform and a re-opening of trade, not the economic equivalent of a sugar high.

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