Have you noticed the election risk? The December FOMC meeting may have a "good show"!

Within weeks of Donald Trump's election as president in 2016, Federal Reserve policymakers began considering the anticipated impacts of tax cuts and tariffs on the economy, drafting rough estimates of future conditions, with some concluding that interest rates might need to be raised to curb inflation.

At that time, Jerome Powell, who was a Fed governor and is now the Fed chair, will once again need to be responsible for formulating monetary policy in the first 16 months of Trump's next term. The former Republican president defeated Democratic Vice President Kamala Harris in Tuesday's election and will be sworn in on January 2025.

Records from the Federal Reserve's meeting on December 13-14, 2016 (before Trump's inauguration) show that Powell indicated at the time that due to the expected new government's "expansionary fiscal policy," "a slight tightening of policy may be necessary."

The Fed raised its policy interest rate at this meeting, marking the first increase since the previous December, which had long been anticipated before Trump defeated Democratic candidate Hillary Clinton. However, for various reasons, policymakers raised expectations for the pace of rate hikes in 2017 and implemented three rate increases over the next 12 months, rather than the two that had been anticipated before Trump's election.

The Fed is now facing a similar moment of uncertainty, along with potential tensions with a second Trump administration, as officials assess how quickly and far they can lower interest rates while curbing inflation.

The economic measures Trump promised during his recent campaign echo those he made in 2016—including more tax cuts, tariffs, and stricter immigration policies. However, they will now fall within a very different economic context, arguably one where inflation risks still loom.

Minneapolis Fed President Neel Kashkari pointed out in a television interview last weekend that mass evictions could disrupt some businesses. At the same time, if rising tariffs provoke a "tit-for-tat" response from other countries, it could be "even more concerning," he said, as it has the potential to lead to steady price increases. "We have to wait and see what policies will be implemented," Kashkari said. "Right now, we are all just guessing."

"Blindfolded"

Inflation is a core issue for Trump in his campaign against Harris, but he now faces a tricky task of achieving a series of expansionary commitments without reigniting the price increases he vehemently opposes, in an economy that is close to or may have already exceeded capacity.

In 2016, U.S. economic activity was hampered by weakness in the labor market and the broader economy, and the Fed hoped that low inflation could be stimulated to rise. Now, the economy is experiencing a period of labor shortages, with output exceeding estimates of potential output, and the Fed is vigilant for any signs that price pressures are re-emerging.

Although Powell stated at last week's press conference that Trump's election would not have a "near-term" impact on monetary policy, if 2016 serves as a reference, the Fed will submit estimates at its next meeting (December 17-18) on how tariffs, tax cuts, and the loss of some illegal labor will affect the monetary policy outlook. **

Although reluctant to comment on the content of Trump's plans, officials may have already begun to reconsider how quickly and how far they can lower interest rates in the coming year. If "Trump 2.0" is seen as increasing the inflation risks that the Federal Reserve has been trying to overcome for more than two years, this could lead to early conflicts with the new administration.

Currently, Bank of America analysts wrote that the Federal Reserve will take a "blindfolded" approach, continuing to cut rates with the aim of acknowledging the significant decline in inflation since 2022, making policy less restrictive.

But these blindfolds may come off quickly. By the December 2016 meeting, Federal Reserve staff had already estimated what different tariff and tax cut proposals might mean and noted the higher rates they might require.

At the December meeting, policymakers will update their economic forecasts to show whether they still believe rates can fall to the levels they expected at their September meeting. In the dot plot from September, they hinted that the benchmark rate would drop to 2.9% sometime in 2026. Following a 25 basis point cut at last Thursday's meeting, rates are currently in the range of 4.5% to 4.75%.

While Powell stated that the baseline expectation for monetary policy is gradually approaching "neutral," he noted that "the speed and destination" remain to be determined.

Powell's comments at the press conference avoided any direct discussion of the election or Trump, who elevated Powell to the position of Federal Reserve Chairman but later called him an "enemy" because his monetary policy was deemed too tight by Trump, disrupting his economic plans.

However, the current Federal Reserve Chairman (whose term runs until May 2026) also summarized the impending end of an era and the beginning of a new one.

He pointed out that a strong paradox may have played a decisive role in the recently concluded presidential election. Powell said, "After experiencing a once-in-a-century pandemic, the U.S. economy is actually in good shape, but people's perceptions have not kept up." Powell stated:

"The performance of the U.S. economy is actually very strong, with robust growth, a strong labor market, and declining inflation. We also know that people still feel the impact of high prices... This is persistent because price levels do not revert. What really needs to happen for people to feel better is years of real wage growth, and we are on the path to creating that situation; the things that need to happen are happening, and largely have already happened, but it will take time for people to regain confidence and feel that."