June 2025

In the early days of June, economic growth seemed to be stalling with retail sales declining, led by a slowdown in auto sales, and the housing sector was stuck in a multi-year slump.  Moreover, investors weren’t sure about the effect President Trump’s tariffs were going to have on inflation.  The bright spot in that otherwise gloomy backdrop was that the equity market had shaken off the sharp selloff it had experienced during the first days of tariff implementation and was within striking distance of the all-time high it had hit in February.

The employment report effectively reversed that consensus and skewed opinion about the state of the economy to a more favorable one.  The BLS reported that the economy added 147,000 jobs in June, up slightly from the 144,000 reported in the previous month.  The expectation for the unemployment rate was for it to rise to 4.3%, but instead it dropped to 4.1%, down from 4.2% the previous month.

That all but eliminated speculation that the FOMC would cut the overnight rate at the July meeting.  That was especially good news for Chairman Powell who had been under intense pressure from the President to step down for his portrayal of the U.S. economy to Congress.  Powell said that he is reluctant to cut the overnight rate in advance of the tariff outcome for fear that it could prove inflationary.

Because of that reluctance, Trump has floated numerous ideas to “force” the Fed’s hand.   His initial idea was to fire Powell, but he doesn’t have the authority to do so.  A more recent idea that he proposed was to possibly name the next Fed Chairman soon, with the assumption that the designee would become the shadow Chairman and could contradict Powell and possibly persuade him to lower interest rates as per the Presidents wishes.  We don’t think that a shadow Chairman is a very good idea.  The risk is that if the shadow Chairman calls for early and sharp rate hikes and Powell’s fear of inflation materializes, when Powell ultimately steps down next June, the new Chairman will have already lost credibility.  With that in mind, investors would surmise that he is a dove, and the yield curve would likely steepen.  A steepening yield curve occurs when bond investors demand a higher premium for each successive longer maturity for the risk of assuming that inflation is going to erode the value of the bond holding over time.

The potential candidates that Trump has put forward are Kevin Warsh, Kevin Hassert, Scott Bessent, and Chris Waller.  All have sided with the Trump idea that interest rates are too high.  Given the current spread of about 1.50% between the overnight Fed Funds rate and the most recent year-over-year consumer price inflation reading, we agree that monetary policy is somewhat restrictive.  On the other hand, with the Trump tariff’s still in a state of flux, it’s quite possible that CPI ticks higher, if only for a few months, in which case the Open Market Committee will be vindicated for keeping monetary policy where it currently is.

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