Trump is getting the lower interest rates he demanded from everyone but the Fed

Highlights:

• Major central banks are cutting while Fed moves to the sidelines
• Policy divergence could mean an even stronger dollar
• Dollar strength could weigh on Trump's trade goals

US President Donald Trump is getting his wish that interest rates drop across the world, just not at home where a strong economy and uncertainty over his own policies have set the stage for the Federal Reserve to diverge from its central bank peers.

The European Central Bank cut rates on Thursday, the Bank of Canada did as well on Wednesday, and the Bank of England is likely to do so next week – steps that, with the Fed in a holding pattern on rates, could strengthen the value of the dollar and further complicate Trump's trade goals by making imports cheaper and US exports more expensive.

ECB President Christine Lagarde noted on Thursday that renewed trade tensions could even put more pressure on lagging euro zone growth, a potential argument for even lower rates in the 20-nation bloc.

"The risks to economic growth remain tilted to the downside," Lagarde said of the tariffs threatened by Trump on a broad set of countries. "All we know for sure is that it will have a global negative impact."

For European interest rates, "we know the direction of travel" will be lower, Lagarde said after the ECB's Governing Council shaved another quarter of a percentage point from its main policy rates. "At which pace, in what sequence, in what magnitude, will be informed by the data we collect."

Bank of Canada Governor Tiff Macklem on Wednesday also bemoaned Trump's tariff threats as the Canadian central bank delivered its sixth rate cut in a row and cut growth forecasts for the US neighbour. "A long-lasting and broad-based trade conflict would badly hurt economic activity in Canada," he said.

Next up is the BoE, which is expected to lower rates next Thursday, with a possibility that it could steer toward a faster pace of cuts ahead than currently expected.

Divergence

That leaves the Fed, for now, standing alone. While US central bank policymakers anticipate rate reductions later this year if inflation eases as expected, Fed Chair Jerome Powell said on Wednesday there was no reason to rush the next move.

"We see things as in a really good place for policy and for the economy, and so we feel like we don't need to be in a hurry to make any adjustments," Powell told reporters after the Fed decided to keep rates on hold.

It was not the outcome Trump said a week earlier he would "demand" from a Fed chief he appointed in his first term, soured on over differences about rate policy, and is expected to replace when Powell's current four-year term ends in May of 2026.

"I'll demand that interest rates drop immediately. And likewise, they should be dropping all over the world," Trump said in video remarks last week to the World Economic Forum in Davos, Switzerland.

Indeed, getting only half his wish may be worse than nothing, with the policy divergence between the Fed and its peers putting possible upward pressure on the dollar, something that would keep imports cheaper at a time when Trump wants a "rebalancing" of global trade in favour of the US That is already a tall task following the record US goods trade deficit that was recorded as 2024 ended.

In the case of Europe, "policy divergence between the Fed and ECB was very likely to trigger a stronger USD this week. Looking forward, it will take clarity on European politics, an end to the (Ukraine) war, clarity on the absence of US import tariffs and the nature of European 'concession,' and a more stable GDP trend," for pressure on the dollar to ease, Macquarie global strategists Thierry Wizman and Gareth Berry wrote ahead of the ECB's policy decision on Thursday.

The dollar has appreciated about 7% against a global basket of currencies since September despite Fed rate cuts totalling a full percentage point last year.

'Policy purgatory'

The difference in tone between the Fed and its central bank peers highlights the different path the US economy took as the world emerged from a deep, but short Covid-19 pandemic recession in 2020.

High inflation was a global phenomenon, given tangled supply chains, and central banks launched a uniform response of rapid rate increases to try to control it.

But the roots of the price increases differed, with events like Russia's 2022 invasion of Ukraine leading to more energy price inflation in the euro zone, and more aggressive fiscal spending in the US creating more demand-driven price increases.

Inflation also has fallen across the board. But in the US that has happened with the economy maintaining above-trend economic growth, while Europe has been on the doorstep of recession.

That situation has left Trump with a potential dilemma: How to improve on the economic results of the Biden administration in an economy that is arguably operating at full employment with output and rates of growth near or beyond the limits of its potential.

US output grew 2.8% in 2024, the fourth consecutive year where gross domestic product expanded at well above the 1.8% considered to be the economy's long-run potential.

Inflation is nearly contained, but the Fed sees enough uncertainty and risk on the horizon that it has moved to the sidelines, at least for now.

"The Federal Reserve is really in a sort of policy purgatory," said Diane Swonk, chief economist at KPMG, noting that Powell's replies to reporters' questions on Wednesday were "peppered with the phrases 'wait-and-see,' 'waiting to see,' 'on hold,' 'not in a hurry,' and 'will patiently watch,'"

With the economy now being shaped by an administration that has launched dozens of executive orders and with tariff announcements perhaps coming soon, "the Fed doesn't know what is next," Swonk said.