Scott Bessent, the Treasury secretary, thinks the Federal Reserve should go big when the central bank meets to vote on interest rates in September.
On Wednesday, he urged Fed officials to forgo gradualism and cut interest rates by half a percentage point next month, followed by a series of reductions that would slash borrowing costs from their current level of 4.25 percent to 4.5 percent.
That is unlikely to happen without a substantial deterioration of the labor market, keeping Jerome H. Powell, the Fed chair, at odds with the administration’s demands. Mr. Bessent said on Wednesday that interest rates should be at least one and a half percentage points lower than they are now. President Trump has insisted on an even more aggressive reduction, saying rates should be lowered to nearly 1 percent — a level typically reserved for periods of economic distress.
Mr. Bessent’s call for significantly lower interest rates came on the heels of a somewhat mixed inflation report.
Overall price gains in July’s Consumer Price Index were subdued enough to bolster the case for the Fed to lower interest rates in mid-September. But a pop in prices across the services sector accelerated last month, leaving policymakers and economists grappling with whether they were seeing just a blip or the start of a more unnerving trend — one that could make it hard for the Fed to go big.
The Fed typically adjusts interest rates by a quarter-point, although moving in larger increments has happened recently. Last September, the central bank kicked off a series of interest rate cuts with a half-point reduction, which Mr. Powell said at the time was appropriate because inflation had receded from its recent peak and the labor market needed shoring up. In May, he conceded that the Fed had been “a little late,” suggesting that the September move amounted to playing catch-up after interest rates were kept steady at the previous meeting.
But the backdrop is very different today. First, interest rates are much closer to what officials consider a “neutral” level, which is one that neither stimulates the economy nor slows it down. There is a lot of uncertainty about where exactly neutral is, but Mr. Powell and other officials have frequently said their policy settings are only “modestly restrictive.” That suggests there is not too far to go in terms of interest rate reductions before hitting the Fed’s desired level.
A year ago, interest rates were a full percentage point higher and exerting much more downward pressure on the economy. Going big at that time had few costs, whereas now, cutting aggressively runs the risk that the Fed ends up stimulating the economy more than officials would like.
Divisions between officials over what to do about interest rates are also a lot sharper today than in the past, suggesting it could be an uphill battle to reach any kind of consensus without clear evidence the economy is hurtling toward a severe downturn.
The Fed’s decision in July to hold interest rates steady was one of the most contentious in decades, with two Trump-appointed members of the Board of Governors dissenting and supporting a quarter-point cut instead. The split centered on Mr. Trump’s tariffs and the impact on inflation, as well as the state of the labor market.
Over the summer, Mr. Powell acknowledged that without Mr. Trump’s tariffs, the Fed would most likely have been able to lower interest rates by this point.
The two dissenting officials, Christopher J. Waller and Michelle W. Bowman, have instead argued that the tariffs would only temporarily raise consumer prices. As a result, they said, the Fed could proceed with lowering borrowing costs even as inflation accelerated. They also warned their colleagues against being too complacent about the labor market.
Since then, more officials have started to openly embrace the idea of restarting rate cuts in the wake of a weak jobs report, which showed the labor market flashing warning signs. Mary Daly, president of the Federal Reserve Bank of San Francisco, said recently that with risks to the labor market rising and inflation more muted than expected, it was time for the Fed to move.
Thomas Barkin, president of the Federal Reserve Bank of Richmond, also softened his stance this week, acknowledging that inflationary pressures from Mr. Trump’s tariffs may not be as intense as once feared.
“We may well see pressure on inflation, and we may also see pressure on unemployment, but the balance between the two is still unclear,” he said on Wednesday.
But there are also holdouts who appear much more concerned about the outlook for inflation and in turn more cautious about cuts. Jeffrey Schmid of the Kansas City Fed argued this week that the muted effect of tariffs on inflation was a sign that monetary policy was “appropriately calibrated.”
On Wednesday, Raphael Bostic of the Atlanta Fed asserted that the Fed still had the “luxury” to take its time on its policy decisions. Later in the day, the Chicago Fed’s Austan Goolsbee lamented the rise in services inflation in July’s consumer price report and cautioned against reading too much into the sharp drop in monthly jobs growth.
The Fed has long braced for Mr. Trump’s tariffs to push up the cost of everyday items that Americans buy. The cohort who think the resulting price pressures will be fleeting have maintained that the tariff impact would remain limited to the items most exposed to the levies themselves, rather than ripple out across the economy. Against that backdrop, the Fed could cut interest rates even as inflation accelerated.
But July’s Consumer Price Index served as a warning shot. While overall inflation came in generally as expected — with the annual pace steady at 2.7 percent — a key metric of underlying inflation took a worrying turn. “Core” prices, which strip out volatile food and energy items, notched the biggest monthly jump since the start of the year as inflation across the services sector intensified. Those prices were up 3.1 percent from a year earlier.
After months of steep declines, airfares jumped 0.4 percent in July. Costs associated with repairing and maintaining cars leaped 1 percent. Medical care services rose 0.8 percent. That included perhaps the biggest quirk of this month’s data: Dental services notched the highest ever month-over-month increase since the government started breaking out that data in 1995.
There are reasons to think that July’s price gains will not be sustained. Housing-related price increases remain well contained, and the categories that rose sharply last month could just be a one-off, as Joseph Lavorgna, an economist who is now counselor to Mr. Bessent, has argued. But the data was notable enough to leave economists wondering whether the jump in services was the start of a more unsettling trend that could curtail just how much relief the Fed will be able to provide borrowers in the coming months.
“The worrying sign for me is stickiness in services inflation at a time when goods inflation is accelerating,” said Blerina Uruci, chief U.S. economist at T. Rowe Price. “I don’t see what’s going to bring inflation down to 2 percent when the Fed is lowering interest rates.”
If services inflation stays frothy, the bar to justify subsequent interest rate reductions is likely to rise. It could also limit how much the Fed ends up lowering borrowing costs overall.
“They’re going to need to see a much weaker jobs report than what we observed in July and a more friendly inflation outlook than what the last few months have implied,” said Joseph Brusuelas, chief economist for the accounting firm RSM.
What constitutes a weak labor market, however, has changed in light of Mr. Trump’s immigration crackdown, a point Mr. Goolsbee raised on Wednesday. Much slower monthly jobs growth may simply reflect a reduction in the supply of workers rather than a drop-off in demand. That puts more emphasis on the unemployment rate, which last month ticked up to 4.2 percent, and other labor market metrics.
“The economy is not sending us recessionary signals,” said James Egelhof, chief U.S. economist at BNP Paribas. He cited the fact that jobless claims remain low, job openings have stayed relatively stable and financial markets have surged to new heights even as the pace of monthly jobs growth has fallen sharply.
Instead, he sees a structural shift taking place across the labor market in which Mr. Trump’s policies are shrinking the overall capacity of the economy. In that environment, interest rate cuts may be “harmful,” he warned.
“If you cut rates into a structural environment, you push the economy faster when it doesn’t have the capacity because there are no more people in the labor force,” Mr. Egelhof said. “You actually create more inflation.”