A key question hangs over the Federal Reserve’s two-day meeting that ends Wednesday: Will central bank policymakers still reduce short-term interest rates this year, now that the Iran war has sent oil prices higher and gas prices spiking? Or will they have to stand pat for months to see how the conflict plays out?
Fed Chair Jerome Powell is almost certain to announce Wednesday that the central bank has kept its key rate unchanged for the second straight meeting at about 3.6%. But the Fed will also release a set of quarterly projections, and they could alter their forecast of one rate cut this year to zero. While such a change might seem minor, it would be a major course correction after 18 months of on-again, off-again rate cuts.
Wherever the Fed comes down, it is a particularly difficult time for policymakers to issue economic projections. The Iran war that the Trump administration launched Feb. 28 has already sent gas prices soaring and will push up inflation for at least the next month or two. The Fed will have to raise the inflation forecast it issues Wednesday from where it stood in December, when Fed officials projected inflation would fall to 2.6% by the end of this year.
Many economists expect the Fed will forecast that inflation will remain as high as 3% even by late 2026. An increase of that magnitude could be hard to square with more interest-rate cuts.
At the same time, the jump in gas prices — if it is high enough and lasts long enough — could slow the economy, as more consumer spending is eaten up at the pump, leaving less money to be spent on other goods and services. As a result, unemployment could move higher later this year.
On Tuesday, gas prices averaged $3.79 a gallon nationwide, according to AAA, up 88 cents from a month ago.
Those two outcomes — higher inflation and higher unemployment — typically lead the Fed in opposite directions. The central bank keeps its key rate unchanged — or even increases it — to fight inflation, while it cuts rates to boost spending and hiring. A combination of rising prices and higher unemployment is generally the worst-case scenario for central bankers.
At the same time, this week’s meeting will be among the last with Powell as chair. His term ends May 15 and President Donald Trump has nominated a former top Fed official, Kevin Warsh, to replace him. Yet Warsh’s nomination has been delayed in the Senate because key Republican senators have objected to a Justice Department investigation of Powell over his testimony about a building renovation.
Last Friday, a judge threw out a pair of subpoenas that the Justice Department had issued to the Fed, dealing a blow to the investigation. But U.S. Attorney Jeannine Pirro has said she will appeal the ruling.
This week’s meeting will be Powell’s second-to-last, unless Warsh isn’t confirmed by May 15, at which point Powell could remain chair of the Fed’s rate-setting committee until a replacement is named.
Even before the Iran war, problems had cropped up in both the inflation and jobs data, putting the Fed in a tight spot. Prices rose more quickly in January than in recent months, according to the Fed’s preferred measure, with inflation excluding food and energy reaching 3.1% compared with a year earlier. That is little changed from where it was two years ago, a sign that prices are still rising at a stubbornly elevated pace.
Yet hiring has also stumbled. Businesses and other employers shed 92,000 jobs in February, the government reported earlier this month, an unexpectedly weak showing that followed an encouraging gain of 130,000 in January. The unemployment rate ticked higher to a still-low 4.4% from 4.3%.
—Christopher Rugaber, AP Economics Writer