There are 2 massive and competing economic forces for Fed officials to balance

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There are 2 massive and competing economic forces for Fed officials to balance

jerome powell trump

Pablo Martinez Monsivais/AP

Federal Reserve board member Jerome Powell speaks after President Donald Trump announced him as his nominee for the next chair of the Federal Reserve in the Rose Garden of the White House in Washington, Thursday, Nov. 2, 2017

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  • Federal Reserve officials were just revising up their forecasts for economic growth, and now they are faced with the growing prospect of an escalating trade war.
  • Policymakers are taking a wait-and-see attitude on assessing the economic effects of President Donald Trump's new protectionism, but many are warning against the dangers of retrenchment.
  • "The best approach is to deal directly with the people who are affected rather than falling back on tariffs," says Fed Chairman Jerome Powell.
  • Dallas Fed's Kaplan tells CNBC "any actions we could take as a country to jeopardize [trade] relationships are not in our interest."

The rising prospect of a global trade war has thrown a wrench into the Federal Reserve's outlook for at least three interest-rate increases this year.

Stocks took a deep hit Wednesday following the resignation of Gary Cohn, the head of Trump's National Economic Council and a former Goldman Sachs banker who championed the tax cut plan but opposed the tariffs.

The prospect of trade frictions, which appears to be rising amid threats of retaliation from Canada to the European Union, muddies an already complicated outlook for Federal Reserve officials.

Policymakers must now balance recent optimism about growth following the passage of tax cuts that some see as a possible stimulus against the chances of a trade war amid increasingly belligerent rhetoric between the United States and its major trading partners.

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That give-and-take will be crucial to figuring out whether recent signs of economic strength can be sustained or, like other bursts of growth in the recent past, will prove fleeting.

'Not the best approach'

Fed officials, who normally shy away from issues not directly related to interest policy or bank regulation, have been quick to condemn any push toward protectionism.

Trump's own pick for Fed chairman, Jerome Powell, said during his first Congressional hearing last week that "the tariff approach is not the best approach.

"The best approach is to deal directly with the people who are affected rather than falling back on tariffs," he said, adding trade is a "net positive" for the US economy.

Asked about Trump's tariff plans on CNBC, Dallas Fed President Robert Kaplan said "any actions we could take as a country to jeopardize [trade] relationships are not in our interest."

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He refrained from making any judgments on the economic impact of policies that have yet to be fully fleshed out. "It's still too soon to say what policies are going to be implemented - my job is not to analyze or overly comment on hypotheticals," he said.

It was Lael Brainard, one of the Fed's most vocal advocates for low interest rates, who surprisingly struck the most positive economic view of recent Fed speakers during remarks to a group of bond dealers on Monday night.

"Mounting tailwinds at a time of full employment and above-trend growth tip the balance of considerations," Brainard told the Money Marketeers dinner. "With greater confidence in achieving the inflation target, continued gradual increases in the federal funds rate are likely to be appropriate."

Brainard did not mention trade in her speech.

Yet if trade wars and monetary policy have anything in common, it is this: both can have deep economic impact, but are likely to do so with long and variable lags. Policymakers will now have to keep an eye on both.

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