Trump's "extreme pressure" on the Federal Reserve is not unfounded; significant interest rate cuts typically indicate economic problems. Analysts point out, "Someone must have told him, we are in big trouble."

Author: Jin Shi Data

U.S. President Trump hopes the Federal Reserve will significantly lower short-term interest rates to 1%. This level of rate cut usually only occurs in emergencies such as a sudden recession or financial panic. What exactly is Trump worried about?

Currently, the U.S. short-term policy interest rate is about 4.25%, while the historical average is 4.6%. The Federal Reserve adjusts interest rates to manage inflation and maintain economic health. If inflation eases, the Fed may lower rates to around 3.5% in the next year or so.

However, Trump's own tariff policies have become a stumbling block. By imposing new taxes on imported goods, Trump has increased costs for businesses and consumers. Most economists believe these tariffs will push inflation up by about 1 percentage point, from the current 2.4% to 3.5% or slightly higher.

Trump seems unconcerned about inflation, even though he promised to "significantly lower prices" during his presidential campaign last year. For months, he has been urging Powell to cut rates, initially asking for a 1% cut, then 2%, and now even more than 3%. Jim Bianco of Bianco Research recently joked on social media, "After July 4th, he might be asking for negative interest rates."

The Federal Reserve typically lowers rates when it believes inflation is under control and the economy needs stimulation. Lower rates make borrowing cheaper, thereby encouraging spending and investment. Under normal circumstances, the Fed would gradually cut rates, reducing them by 25 basis points every few months. However, when necessary, the Fed can also implement aggressive rate cuts. For example, during the Great Recession from 2007 to 2009, the Fed cut rates by nearly 5 percentage points in 15 months; during the sudden recession triggered by the COVID-19 pandemic in 2020, the Fed cut rates by 1.5 percentage points in two months.

Rate cuts exceeding 25 basis points usually indicate economic problems. The magnitude of the cuts Trump is requesting is comparable to those during a recession. Yahoo Finance's Rick Newman stated, "Someone must have told him, we are in big trouble."

Trump's economic advisors, including Treasury Secretary Mnuchin and White House economist Hassett, publicly maintain an optimistic view of the economy—it's part of their job. But they may share the concerns of many economists and investors: the economy seems to be slowing, the job market is weak, national debt is growing to unsustainable levels, and Trump's tariff policies are doing more harm than good.

Throughout his two presidential terms, Trump has advocated for lower interest rates to reduce federal borrowing costs. He often talks about "refinancing" government debt, a tactic he frequently used as a real estate developer.

In recent years, relatively low rates have reduced the average interest rate on government debt from 5% in 2007 to 1.6% in 2022. The government, like other borrowers, benefited from the Fed's aggressive rate cuts in 2020. However, the government's average borrowing rate has now rebounded to 3.3%, while the federal deficit has ballooned to nearly $2 trillion annually. Annual interest payments on the debt have now exceeded $1 trillion, making it the second-largest federal expenditure after Social Security.

Trump is not a fiscal hawk. The tax cuts he is pushing through Congress will add about $4 trillion to the national debt, which is expected to exceed $40 trillion by the end of this decade. But Trump should understand that soon there will be a president who has to deal with the consequences of massive national debt, and that person could be him.

On Tuesday, Trump posted on "Truth Social": "Republicans, this 'beautiful big bill' may be the greatest and most important bill in history, providing the largest tax cuts and border security ever, creating millions of jobs, increasing military spending and veterans' benefits, and more. If this bill fails to pass, it will lead to the largest tax increase in history of 68%!!!"

There are already signs that the surge in federal debt is shaking financial markets. All three major rating agencies have downgraded the U.S. credit rating. Long-term interest rates are higher than they should be, which is a typical sign that the market cannot absorb too much debt. This has led to a weaker dollar and triggered a trend of "selling U.S. assets," making foreign assets more attractive than U.S. assets.

If Trump gets his way, significant rate cuts would clearly lower the government's borrowing costs. But this does not help solve the fundamental problem: the debt itself is too high, and the profligate Congress remains indifferent.

Trump may also be worried about an economic slowdown—GDP contracted in the first quarter. Job openings are decreasing, consumer confidence is low (as always), and Americans are increasingly concerned about the labor market. If the economy does weaken, the Fed will undoubtedly cut rates at some point, but it will not be as aggressive as Trump is requesting.

Banking analyst Chris Whalen believes the Fed may eventually lower short-term rates from the current 4.25% to 3%. However, he also believes that due to the additional deficit spending from Trump's tax cuts, long-term rates for mortgages and other consumer and business loans are more likely to rise than fall. This could lead to a stagflation scenario: stagnation in growth, while inflation and interest rates remain high, increasing voter dissatisfaction.

Another reason for Trump's radical rate stance may be that he is looking for a scapegoat for potential failure. He frequently attacks Powell, calling him "an idiot," "a fool," and "a stubborn mule," clearly setting the stage to blame future economic problems on him. If inflation surges, unemployment rises, or consumer sentiment remains low, Trump can say it is all Powell's fault—for not cutting rates in time and for not listening to the "smarter president's" advice.

Most economists believe the current short-term interest rates set by the Fed are at a reasonable level. Almost no one predicts a catastrophic situation that would require an emergency rate cut. There is a general belief that if the economy weakens further, the Fed will take action—but it will not act according to the White House's demands.

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