Trump's War on the Fed Ignites Constitutional Crisis Over Economic Control

The Federal Reserve has faced intensified political pressure under President Donald Trump’s administration, which has significantly complicated its monetary policy decisions. Trump’s recent decision to fire Federal Reserve Governor Lisa Cook, citing allegations of mortgage fraud, has drawn widespread legal and political scrutiny. Cook has contested the firing, arguing that Trump lacks the authority to remove her from her position, with legal proceedings expected to escalate to the Supreme Court. This move marks the first instance since the Federal Reserve’s establishment in 1913 that a U.S. president has attempted to remove a Fed governor, raising concerns about the central bank’s independence and its ability to act in the interest of the broader economy. The political maneuvering has further heightened uncertainties in the economic outlook, with financial markets reacting cautiously to the developments.

The Trump administration’s trade policies have added another layer of complexity to the Fed’s monetary policy decisions. The administration’s imposition of significant tariff increases, which have elevated the average U.S. tariff rate from 2.4% to over 18%—the highest since before World War II—has raised concerns about the inflationary and employment effects of these measures. According to the Federal Reserve staff’s 2018 estimates, widespread tariffs could increase inflation by approximately one percentage point and raise the unemployment rate by half a percentage point, with more persistent effects on employment. These estimates were broadly reflected in the June 2025 projections of the Federal Open Market Committee (FOMC), which showed a significantly higher near-term inflation and unemployment outlook compared to December 2024 projections. While the FOMC anticipates a "soft landing" scenario, it now projects a longer runway and heightened uncertainty, particularly in light of the unpredictable impacts of tariff policies.

The International Monetary Fund (IMF) has also weighed in on the economic implications of the Trump administration’s trade policies, offering slightly different estimates than the Fed. According to the IMF’s 2025 analysis, the average U.S. tariff increase of 25 percentage points would result in a 0.5 percentage point rise in headline CPI inflation, with output declining by nearly 1% over two years. These findings suggest a more pronounced impact on economic growth compared to the Fed's own projections. Additionally, the IMF estimated a half percentage point increase in the unemployment rate, reinforcing concerns that trade policies could significantly hinder economic performance. These varying estimates underscore the challenges the Fed faces in calibrating monetary policy in the face of substantial uncertainty regarding the economic effects of trade-related interventions.

Beyond trade policies, the Trump administration’s fiscal policies have also introduced new uncertainties for the Fed. The extension of the 2017 tax cuts has led to increased budget deficits, potentially fueling inflationary pressures and undermining long-term fiscal sustainability. These fiscal developments could prompt the FOMC to adopt a tighter monetary policy stance, even as it seeks to accommodate the economic effects of tariffs. Furthermore, the administration’s pledge to cut regulation may contribute to economic growth in the long term but could also introduce risks to financial stability. Geopolitical tensions, particularly in the Middle East, have further exacerbated uncertainty, with potential disruptions to energy supplies and global shipping posing significant risks to the U.S. economy. The combination of these factors has left the Fed in a delicate position, balancing its mandates for maximum employment and price stability amid a rapidly shifting policy landscape.

The Federal Reserve’s current approach has been to adopt a wait-and-see stance, emphasizing that policy remains somewhat tight and that additional data are necessary before making further adjustments. This cautious approach is informed by the expectation that the inflationary effects of tariffs will wane over time, while the impacts on employment will persist longer. The FOMC has emphasized flexibility in its policy response, indicating that it is prepared to adjust interest rates depending on whether inflation rises above expectations or the economy slows more than anticipated. However, the high levels of uncertainty, both in economic fundamentals and in the administration’s policy direction, make preemptive action difficult. The Fed’s ability to maintain its independence remains critical to its success in navigating these challenges. While President Trump has the opportunity to appoint new members of the Board of Governors, the Federal Reserve Act provides structural protections, including long staggered terms and the inclusion of independent Reserve Bank presidents, which insulate monetary policy decisions from direct political influence.

The implications of these developments for the U.S. economy remain uncertain. The Fed has historically relied on its independence to shield monetary policy from political interference, and the Federal Reserve Act provides a framework that limits the potential for excessive politicization. However, the Trump administration’s confrontational approach to the Fed raises concerns about the long-term sustainability of this independence. If the political pressure on the Fed intensifies, particularly in the lead-up to midterm elections, it could lead to demands for more accommodative monetary policies, even at the expense of price stability. The Fed’s ability to resist such pressures and maintain a focus on its congressional mandates will be critical in determining the broader economic outcomes in the coming years.

Source:

[1] The Federal Reserve, the new administration, and the outlook for the economy and monetary policy (http://cepr.org/voxeu/columns/federal-reserve-new-administration-and-outlook-economy-and-monetary-policy)

[2] Stock Market Today: Trump Fired Fed Governor Lisa Cook (https://eurasiabusinessnews.com/2025/08/26/stock-market-today-trump-fired-fed-governor-lisa-cook-nasdaq-edges-higher/)