The Federal Reserve faces tough policy choices—President Trump’s tariffs could rekindle inflation, boost unemployment or both.

In their forecasts, the Fed’s policymaking committee indicates the likely next move will be to lower interest rates either later this year or early next, but if Trump’s tariffs fester both problems, they may be frustrated in that ambition.

Powell believes he has time to see what develops, but hesitating may not serve his legacy well.

Biden’s Legacy

President Biden left behind a solid economy.

In January, before Trump returned, economists predicted 2% growth for this year and inflation continuing to fall towards the Fed’s 2% goal—the illusive soft landing.

First quarter GDP growth scored negative 0.2% because in March, imports surged to beat Trump’s Liberation Day tariffs. That weighed heavily in calculations, but domestic demand, production and employment remained solid.

If the 2^nd quarter disappoints, another surge in May-June imports, as retailers build inventories during a suspension period for higher tariffs on Chinese imports, won’t be the only culprit.

Uncertainty about future tariffs is weighing heavily on investment and hiring decisions. That’s slowing economic activity and wage growth, and the 12-percentage-point increase in the average tax on imports currently in force is too much for retailers to bear without raising prices.

Walmart announced its intension to increase prices provides cover for smaller competitors to follow suit. The timing of price increases will vary among categories of goods as retailers run down inventories purchased at pre-tariff prices at differing rates, but inflation, which was 2.4% in May, likely will be a much higher by next year.

Overall, Trump’s tariffs are a recipe for stagflation.

Trump’s Sequencing Problem

The president’s economic message sounds a bit like his predecessor.

President Biden asked Americans to accept the inflation imposed by bigger budget deficits to finance his industrial and green energy policies. Now Trump seeks the same goal—reshoring manufacturing to create better jobs—but with tariffs, that also aggravates inflation.

Trump’s additional tax cuts and spending on defense and border enforcement will overwhelm the new revenue collected from higher tariffs to boost aggregate demand and employment but that’s next year.

This year, Trump’s tariffs will sap demand, slow growth and create a tougher jobs market for the unemployed.

Search times for unemployed white-collar workers have lengthened. Demand for their services is weakened by businesses nervous about future tariff policies and eager to deploy artificial intelligence to radically boost productivity.

The Power of Pessimism

Like most economists, Fed policymakers lean heavily on expectations, because what people believe will happen importantly influences spending decisions and wage demands to the extent workers have leverage in negotiating compensation.

According to the University of Michigan Survey, consumer sentiment about the outlook for the economy is underwater and the average Joe expects 5.1% inflation over the next year.

History teaches it’s better to take your medicine all at once—conquer inflation by keeping interest rates higher for longer and bear more temporary unemployment as a necessary sacrifice.

An International Monetary Fund study of more than 100 bouts with inflation across 56 economies indicates when central banks prioritize curbing inflation in the near term, their economies suffered no loss in growth and real wages over the next 5 years.

Foreign Investor Confidence

The Fed must be conscious of the credibility of Treasurys in international bond markets, because the federal government relies on foreign investors to finance a considerable portion of the national debt. Asian and British private investors have a particular appetite for dollar denominated securities.

In contrast to central banks holding Treasurys as reserve assets, private investors are more sensitive to whether the Fed is serious about defending the dollar as a secure store of value by not bending to near term pressure from Trump to lower interest rates.

European governments will be borrowing more to finance their defense buildup. Hence, the Treasury will face more competition for the global pool of private savings from high-quality euro-denominated sovereign debt.

The dollar already faces pressure from investor nervousness about the size of Republicans tax cuts and additional spending on defense, immigration enforcement and the like.

Fed vacillation on curbing inflation could easily result in a bond buyer’s strike and run on the dollar given the persistence of federal deficits close to 7% of GDP.

Fed policymakers should be clear that if faced with a choice between fighting inflation and rising unemployment, they will prioritize price stability to ensure a better future and accept some short-term unemployment as the price of Trump’s trade war.

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Peter Morici is an economist and emeritus business professor at the University of Maryland, and a national columnist.