Trump has repeatedly demanded that the Federal Reserve cut interest rates to 1%, but analysts believe this demand is unrealistic and could backfire, not only triggering global financial turmoil but also potentially causing the U.S. government’s financing costs to rise rather than fall. At present, U.S. inflationary pressure remains persistently high, and Federal Reserve officials generally support continued rate hikes to curb inflation. Goldman Sachs expects the Fed may complete its final rate hike of the year in October, after which the rate-hiking cycle will end, but oil price trends remain a key variable.
The Federal Reserve just raised interest rates by 25 basis points last week to 3.75%-4.00% and signaled further policy tightening. Trump criticized this decision and once again proposed supporting a 1% interest rate level.
However, if the Federal Reserve sharply lowers the current policy rate range to around 1%, it is very likely to trigger severe turmoil in the global financial system and ultimately cause the U.S. government’s financing costs in the bond market to rise rather than fall. J. Benson Durham, founder of investment research firm DASM, said that from a practical operational standpoint, cutting rates by about 3 percentage points to around 1% “would seem to bring catastrophic consequences.” He believes that as investors price in higher inflation expectations, U.S. Treasury yields would instead move higher; countries such as Germany only need to offer investors returns slightly higher than those of the United States to potentially draw away funds, while the dollar could “fall sharply.”
Although the mechanisms of the bond market and concerns about the Federal Reserve’s credibility are both worrying, Trump has still repeatedly demanded a substantial reduction in borrowing costs. Some people close to Trump believe that his repeated demand to cut interest rates to 1% is less a specific policy proposal than an effort, before the November midterm elections, to shift public dissatisfaction over issues such as high prices partly onto the Federal Reserve. Grover Norquist, head of the conservative organization Americans for Tax Reform, said: “The president is saying in his own way, ‘I don’t like this pain,’ but he should make clear that the Fed having to raise rates is not the Fed’s fault.”
According to a person involved in the relevant communications, given the importance of controlling inflation before the midterm elections, some allies of the administration privately expressed approval to Federal Reserve Chairman Warsh after the rate decision was announced. A White House ally responsible for communicating with Warsh said that considering the operating mechanisms of the global bond market, the call to cut rates to 1% is unrealistic. Trump is currently giving Warsh relatively more room to maneuver, which may reflect a more harmonious relationship in the early days of the new Federal Reserve chairman’s tenure. So far, Trump’s public remarks have been relatively restrained toward Warsh, directing more criticism at other Federal Reserve policymakers.
Goldman Sachs now expects that the Federal Reserve will complete its final rate hike of the year at its October 27 policy meeting, after which this round of the Fed’s rate-hiking cycle may be over. But it should be noted that the bank added that a sustained decline in oil prices to curb inflation is the key condition for achieving “two rate hikes and then it’s done.” According to the CME FedWatch Tool, the market now generally expects that the Fed will most likely raise rates by another 25 basis points this month.
