Challenges Ahead for Fed Chair Jerome Powell

By Howard Schneider

WASHINGTON (Reuters) – The Federal Reserve will conclude its final meeting of 2024 on Wednesday, marking what is likely to be Fed Chair Jerome Powell's last full year at the helm of the U.S. central bank, as his four-year term is set to expire in May 2026.

Powell's tenure of over six years has been significant, yet the upcoming months may bring both new challenges and opportunities to wrap up unresolved issues.

Powell’s 2025 Wish List

If Powell has a wish list for 2025, it might include:

1. Clear 'Stop' Sign

Powell's primary mission is to complete the 'soft landing' with inflation at 2% and full employment, amidst challenging economic conditions influenced by tax, tariff, and immigration policies, according to Donald Kohn, a former Fed vice chair.

Although the Powell-led Fed faced criticism for not raising interest rates sooner in response to 2021 inflation surges, rapid rate hikes have helped bring inflation closer to the 2% target. However, much remains to be done. Powell will need to navigate discussions on when to halt rate cuts without triggering inflation rebounds or deteriorating the job market, especially with new government policies coming into play.

2. Stable Fiscal Environment

President-elect Donald Trump has pledged significant changes in tax, trade, immigration, and regulatory policies that could complicate the Fed's efforts to sustain price stability and full employment.

With the economy likely operating at or above its potential, lower taxes or relaxed regulations may increase inflation pressures by stimulating demand. Additionally, policies like widespread immigrant deportation could restrict labor supply, raising wages and costs, while tariffs may also lift import prices.

However, the situation is complex; higher import prices could dampen consumer demand or redirect them to local substitutes, posing a challenge for the Fed to discern the overall economic impact of these pending policies on inflation and unemployment.

3. Quiet End to Quantitative Tightening

During the pandemic, the Fed expanded its holdings of U.S. Treasuries and mortgage-backed securities to stabilize markets. Now, as part of its strategy to return to 'normal' monetary policy, the Fed is shrinking its balance sheet through a process known as quantitative tightening. Finding a balance between allowing this run-off to continue and avoiding disruption in overnight funding markets is crucial for Powell before he wraps up his term.

4. Sturdier Framework

Part of Powell's legacy will be shaped by the changes in the Fed's monetary policy strategy, which was approved during the pandemic in 2020. The new framework prioritized employment recovery and aimed to use high inflation periods to offset previous inflation misses. However, Powell acknowledged that this operating framework may need revision given the rapid labor market recovery and rising inflation. The challenge lies in ensuring that the Fed avoids prioritizing one mandate over the other.

5. Avoid a Regulatory War

The Trump administration might push for overhauls in bank regulation, an area where the Fed plays a crucial role in supervision and broader financial stability. Given his focus on building relationships with Congress, Powell will need to leverage those connections during debates on regulation changes and potential reforms to the Fed.

"There may also be calls for reforming the Fed writ large. I hope Chair Powell … puts the Fed in the best position possible to deal with potentially big change," said David Beckworth, a senior research fellow at George Mason University's Mercatus Center.