What to Make of The Federal Reserve's Decision?

Summary

• Joseph Lavorgna endorses the Fed's decision to hold rates steady, citing uncertainty primarily from the oil and gas supply shock as a serious economic risk.
• Absent the oil shock, he would advocate for lower rates due to a disinflationary supply-side boom fueled by pro-growth tax policies and deregulation.
• He pushes back on Chair Powell's emphasis on tariffs, arguing the effect is minimal and that the Fed should look through such transitory factors.
• The Fed's admission of being too easy for too long in 2021-2022 conditions their current caution, even as the labor market shows significant weakness compared to 2022.
• Oil price increases act as a direct tax: every $1 rise in oil translates to ~2.5¢ at the pump; a $40 increase implies a ~$1 pump price hike, equivalent to a $100 billion tax hike per $1 oil increase.
• Economic damage hinges on duration: a few weeks of high oil prices is manageable; a few months could erode consumer confidence and spending, indicating potential recession.
• If the economy weakens sharply (e.g., rising unemployment to 5%), the Fed should cut rates to avoid recession, even if inflation is elevated, to prevent a disinflationary spiral.
• Stagflation risk (e.g., 1% growth with 4% CPI) would pressure financial markets, leading to a steeper yield curve with higher yields and lower equity prices—though not akin to 1970s stagflation.
• Underlying US fundamentals remain strong due to productivity improvements, deregulation, and tax policies, supporting a bullish economic outlook if the oil shock resolves.
• Critical uncertainties include the duration of the oil shock, extent of Middle East infrastructure damage, and geopolitical resolution, which severely cloud the Fed's forecasting ability.