President Trump's trade war is obviously going poorly. Stocks have tanked, consumers are spooked about soaring prices, and economists warn a recession could be coming.
There are a few things Trump could do. The most obvious would be to reverse course and call off his tariffs, which would delight Wall Street and probably send stocks soaring. He could also ink some hasty trade deals as an excuse for undoing his tariffs or find other face-saving exit ramps.
Trump isn't doing any of that. Instead, he's telegraphing more economic disruption and preparing to destabilize the economy even further by taking on the Federal Reserve and its chair, Jerome Powell.
Trump's unhappiness with Powell has escalated from grumpiness to fury. Since launching his trade war several weeks ago, Trump has been prodding the Fed on social media to cut interest rates. The Fed hasn't, and on April 16 Powell gave remarks basically saying no cuts are coming anytime soon, and Trump's trade war is the reason.
The next day, Trump mused openly about firing the Fed chair. "Powell's termination cannot come fast enough," Trump wrote in a social media post. Right after that came what appear to be deliberately leaked stories about Trump's plans to fire Powell. So, in addition to plunging asset values and recessionary warnings, investors can now worry about Trump trying to co-opt the world's most important monetary institution.
Anybody who thinks Trump is bluffing should reconsider. During his second term, Trump has pushed boundaries further than almost anybody expected. While campaigning last year, for instance, he threatened a 60% tariff on Chinese imports. It's now more than double that, at 145%, which is essentially a blockade on Chinese products. Wall Street expected Trump to ease up on tariffs if markets slumped in response. But Trump has held firm in the face of a $10 trillion stock wipeout and rapidly rising recession odds.
If Trump had his way, a compliant Fed would cut short-term interest rates to enable his protectionist trade regime. Stocks have been reeling under Trump's tariffs because they'll raise costs, dent earnings, stoke inflation, choke off growth, and maybe cause a recession. Normally, when the Fed thinks the economy is weakening, it will cut short-term rates to stimulate spending and boost growth. That's what Trump wants the Fed to do now.
But the Fed can't cut rates because Trump's tariffs seem likely to push inflation a couple of percentage points higher, and one of the Fed's main jobs is to combat inflation. At current levels, the Trump tariffs constitute a tax hike of about 25% on $3 trillion worth of goods purchased by US businesses and consumers. Tariffs directly raise costs, which is the definition of inflation.
If you sense the cognitive dissonance, then you've sussed out the absurdity of Trump's trade war and his demands on the Fed. Before the Trump tariffs, inflation, which peaked at 9% in 2022, was almost back to normal. In March, the annual inflation rate was 2.4%, just shy of the Fed's 2% target. Without Trump's trade war, the Fed might be comfortable enough about the path of price hikes to cut rates. That's what investors expected at the start of the year, before Trump surprised everybody with a more aggressive and damaging trade war than nearly anybody anticipated.
With the trade war fully underway, Trump's tariffs are now the very thing preventing the Fed from cutting rates. Economists broadly expect inflation to shoot back up to 3.5% or 4% or maybe higher, depending on which Trump tariffs stay in place.
Abetting Trump's trade war is obviously not Powell's job, and he has made clear he will not be a Trump toady. During his April 16 remarks, Powell sounded as confused as anybody about where Trump's tariffs are headed and how damaging they'll ultimately be. He said the Fed "will await greater clarity" before making any interest rate decision.
Trump could provide that clarity. But he seems more interested in firing Powell and fighting the Fed. So investors are now bracing for an overt showdown between Trump and the Fed, which can only add to the gloomy climate for investors in Trump 2.0.
It's possible the Fed chair is beyond Trump's reach. "Powell's not going anywhere," Terry Haines, founder of Pangaea Policy, wrote in an April 17 analysis. "There are many legal, practical, and political reasons why Trump can't replace Powell or gut the Fed. Trump even thinking about kneecapping the Fed is the quickest way to ensure Wall Street support instantly flees." Haines also pointed out that the Fed's independence is a congressional mandate, something Congress and the courts would likely defend aggressively.
President Trump looks on as Jerome Powell, his then-nominee to become chairman of the US Federal Reserve, speaks at the White House in Washington, D.C., on November 2, 2017. (Reuters/Carlos Barria/File Photo) ·Reuters / Reuters
Yet Congress and the courts have already yielded to Trump in ways nobody expected, approving highly controversial Cabinet nominees and upholding some of Trump's more questionable executive actions. Even if Trump expects to lose, he might still try to fire Powell just for the brownie points he could earn among supporters for taking on an institution some critics view as a globalist bogeyman.
Trump has already set a precedent for firing Powell by removing a few directors at other independent federal agencies, including the National Labor Relations Board, the Merit Systems Protection Board, and the Federal Trade Commission. Litigation is underway to determine if Trump has the authority to do this. In one case, the Supreme Court let the Trump firings stand while saying it plans to consider the matter further. It's unclear what the courts will ultimately do, but if some of the firings stand, it could obviously embolden Trump to go after Powell.
Trump may also be setting up Powell as the scapegoat he can blame if (or, more likely, when) his trade war ends up a miserable failure. Trump can say his tariffs would have worked if only the Fed had cooperated by cutting rates to ease the pain. That's bunk, because Fed rate cuts would make inflation even worse than Trump's tariffs alone, and that would come at a time when many Americans already feel badly burned by the inflation of the Biden years.
Trump may also think the Fed is a useful target because it's easy to vilify. The Fed clearly waited too long to react to worsening inflation in 2021 and early 2022. By the time the Fed started raising rates as an inflation bulwark in March 2022, it was already near its 9% peak. The high cost of groceries, rent, and other necessities hammered family budgets for the next couple of years.
The Fed ultimately succeeded at getting inflation down, however, and by the time Trump took office in January, a "soft landing" seemed to be in place: a return to normal inflation without tightening the flow of money so much that it caused a recession. Even with the Fed's flaws, investors still view America's central bank as an honest broker that telegraphs its moves well in advance and provides bedrock stability. Up till now, the Fed has helped make the United States the world's standout economy.
The Trump slump in markets has been investors' way of telling Trump that his trade war is a losing gambit that will cause more harm than good. If Trump's next step is to expand his trade war to the Fed, markets will probably boo even louder. It might be a good idea to think of something other than your 401(k) account until Trump's assault on markets burns itself out in a few months or years.
Rick Newman is a senior columnist for Yahoo Finance. Follow him on Bluesky and X: @rickjnewman.
