WASHINGTON — President Trump has repeatedly blamed the Federal Reserve’s interest rate policy for preventing the American economy from reaching the 4 percent growth he had promised. On Wednesday, Mr. Trump renewed that criticism from the sidelines of an elite gathering in Davos, Switzerland.
“No. 1, the Fed was not good,” Mr. Trump told CNBC when asked why economic growth was closer to 2 percent last year. Data for the full year isn’t in yet, but the economy probably expanded at 2.2 percent or 2.3 percent relative to the fourth quarter of 2018, economists estimate.
Mr. Trump also pointed to the grounding of Boeing’s 737 Max plane and severe storms as factors that held back the economy, but added that “with all of that, had we not done the big raise on interest, I think we would have been close to 4 percent.”
Economists said that claim was not realistic.
The central bank’s nine interest rate increases between 2015 and late 2018 — three of which it reversed last year — probably reined in business investment and the housing market, economists say. But that impact did not shave nearly 2 percentage points from economic growth. It is hard to know how big of a drag it did create, since Mr. Trump’s trade war was weighing down business sentiment and investment simultaneously.
Here are a few ways to think through how the economy might have shaped up had the Fed acted differently.
Extreme Version
In the real world, the Fed lifted rates between December 2015 and the end of 2018 in an effort to achieve a soft landing: one in which growth continued at a moderate pace and inflation, which the Fed is supposed to keep under control, settled around its 2 percent target.
When growth showed signs of wavering in 2019 and inflation remained soft, Fed officials reversed course, cutting rates three times.
In the most extreme counterfactual, one in which the Fed never raised its policy interest rate at all, growth might have been 1 percentage point higher in 2019, said Ernie Tedeschi, policy economist at Evercore ISI.
That estimate, which he based on the central bank’s main economic model, would have gotten America to around 3.2 percent growth in 2019 — but at a hefty cost.
“Inflation would’ve been well above their mandate, 2.5 percent and rising, at this point,” Mr. Tedeschi said. Price gains are like an aircraft carrier — they’re hard to turn around once they get going — so that would have necessitated a sharp increase in rates. Such an abrupt change could have plunged the economy into recession.
“It would certainly be painful,” Mr. Tedeschi said.
But even in that version of the world, one in which the Fed was willing to play with fire by leaving its policy totally untouched at near-zero for more than a decade, the economy could have achieved that 4 percent growth figure only absent a trade war — and even that is a stretch.
While it’s hard to gauge precisely how much Mr. Trump’s tariffs reduced growth, estimates suggest they could have shaved between 0.5 and 1 percentage point away in 2019, Mr. Tedeschi said.
All of these projections are highly uncertain — it is difficult to know how the world would have shaped up after the fact, and it is impossible to know how policies would have interacted.
And even if the basic figures are right, this scenario is unrealistic. Leaving interest rates at rock bottom would have been expected to generate unsustainable economic conditions. That runs contrary to the Fed’s very mission, given to it by Congress.
Moderate Version
In another version of the world, the Fed could have raised interest rates between 2015 and 2018, but then lowered them much more quickly in 2019 as inflation pressures remained muted. Had they dropped the federal funds rate to zero at the very start of the year, Mr. Tedeschi said, it might have added about 0.35 percentage point to growth, getting the economy up to the 2.5 percent range.
That is also far-fetched — the Fed has never slashed rates to zero outside of a recession. Doing so at a time when the economy was growing and Mr. Trump was pushing for a move would have looked overtly political, threatening the central bank’s prized independence. It could have raised the risk of higher inflation. And even if conventional models are totally broken and price pressures no longer respond to loose Fed policy, rock-bottom rates at the height of an expansion could have helped to fuel financial excesses.
Real-World Version
So how did the Fed’s actual policies affect growth?
Relative to the economy’s structural growth path — the one driven by labor force expansion and productivity — the Fed’s rate-setting may have shaved about 0.1 percentage point from growth in 2019, according to an estimate from Julia Coronado, a founder of MacroPolicy Perspectives. Slower capital expenditures and trade probably shaved another 0.1 percentage point from growth. But those effects were offset by the aftereffect of ramped-up government spending and tax cuts, which she estimates probably lifted growth by about 0.4 percentage point.
But even here, there are uncertainties.
While it is clear that business investment fell sharply last year and manufacturing sagged, weighing down growth, it is hard to tell how much of that was a lagged response to higher interest rates and how much was a response to the trade war.
Anecdotally, businesses primarily blamed slower global growth and uncertainty stemming from the tariffs for that slump.
But interest rates probably had at least some economic impact. After the central bank cut them three times between July and December 2019, the wavering housing market perked back up, for instance.
“The slowdown in capital expenditures came along when the trade war escalated,” Torsten Slok, an economist at Deutsche Bank, said in an interview. “One cautious estimate is that the trade war played a bigger role,” he said, but “it’s just really difficult to wiggle out which was the cause.”
The upshot: The Fed matters around the edges, but, in the longer run, it is unlikely that the economy can achieve the 4 percent growth Mr. Trump has promised.
Tax cuts and higher government spending have helped to nudge growth temporarily above its potential — it came in at 2.8 percent in 2017 and 2.5 percent in 2018, decently above the roughly 2 percent sustainable growth rate.
Yet those gains probably will not hold. The working-age population is growing more slowly, and productivity, which popped temporarily, has since fallen back to earth. The ingredients for naturally higher economic growth do not exist.
The Congressional Budget Office estimates that over the next decade, growth will average 1.9 percent a year, up slightly from the preceding decade but down substantially from the 3 percent and higher growth that prevailed before 2000.
“We haven’t seen 4 percent growth for many, many years,” Mr. Slok said.