Trump has been openly critical of Powell, the man he appointed in 2018. Nevertheless, in his first post-election press conference, Powell asserted that Trump lacks the legal authority to remove him before his term ends in May 2026—a commitment Powell intends to honour. Wisely steering clear of hypotheticals, Powell refrained from speculating on how Trump’s tariff hikes, mass deportations, and tax cuts might influence monetary policy. As Powell said, the Fed doesn’t “guess, speculate, or assume.”

They wait until policies become law before adjusting their models.

The Fed’s economic framework underlines this cautious approach. Tariffs, for example, are only factored in when they seem inevitable, and any monetary response is assumed to align with the Fed’s employment and inflation goals. Theoretically, this method avoids policy blunders, smooths out economic shocks, and anchors inflation expectations. Of course, this also means that Trump’s policies could take quite some time to even register within the Fed’s response plan.

Should Trump’s moves prove relatively mild, the Fed’s response lag might be inconsequential. But if Trump goes all-in with hefty tariffs and sweeping deportations, the Fed may be too late to offset the economic turbulence. Rising import costs and a labour shortage could fuel inflation and rattle inflation expectations—requiring a more forceful and costly monetary response.

Trump may also attempt to sway the Fed towards maintaining low interest rates throughout his term. However, his influence here could be more constrained. In the short term, there’s no clash; the Fed will likely continue easing rates. However, Trump’s leverage is limited beyond that until Powell’s term expires.

Trump could, theoretically, attempt to undercut Powell by appointing a new Fed Board chair as his “chosen successor,” effectively creating a “shadow chairman.” Yet, there are significant obstacles to this approach:

• Trump would need to either orchestrate the departure of an existing Board member or wait until a vacancy arises, which will not happen until Adrianna Kugler’s term ends in 2026.
• Powell would still control the Fed’s agenda and staff, retaining considerable authority.
• The “shadow chairman” strategy would be mostly ineffective, as economic data, not hints from hypothetical successors, dictates the Fed’s actions.

The market’s reaction to Trump’s victory has been, let’s say, curious. Bond yields have risen, suggesting that markets expect the Fed’s interest rate target to hit around 3.75%, far above the 2.9% forecast from a few months ago. This move signals both economic resilience and a belief that Trump’s policies could stoke inflation.

The stock market’s reaction, however, is perplexing. Lower corporate taxes, deregulation, and increased tariffs could temporarily boost profit margins, but inflationary tariffs and potential labour shortages from mass deportations counter these upsides. Add a recent 50 basis point rise in interest rates, and stocks seem overvalued. Investors might regret their enthusiasm.