Federal Reserve Could Signal No Interest Rate Cuts This Year Amid Iran War Fallout
Federal Reserve Chair Jerome Powell is almost certain to announce on Wednesday that the central bank has kept its key interest rate unchanged for the second consecutive meeting, holding steady at approximately 3.6%. This decision comes as the Fed grapples with the economic repercussions of the Iran war, which has driven oil and gas prices sharply higher, complicating the outlook for monetary policy in 2026.
Quarterly Projections May Reveal a Major Shift
A key question looming over the Federal Reserve's two-day meeting, which concludes on Wednesday, is whether policymakers will still reduce short-term interest rates this year. The Iran war, launched by the Trump administration on February 28, has sent gas prices soaring and is expected to push up inflation for at least the next month or two. In response, the Fed will release a set of quarterly projections that could alter their previous forecast of one rate cut this year to zero.
While such a change might seem minor, it would represent a significant course correction after 18 months of on-again, off-again rate cuts. This shift underscores the challenging environment for economic forecasting, as the conflict introduces new uncertainties into the global economy.
Inflation and Unemployment: A Dual Challenge
The Fed faces a particularly difficult task in issuing economic projections at this time. The Iran war has already caused gas prices to spike, with AAA reporting that the national average reached $3.79 per gallon on Tuesday, up 88 cents from a month ago. This surge will likely force the Fed to raise its inflation forecast from the 2.6% projected in December for the end of this year. Many economists anticipate that the Fed may now forecast inflation remaining as high as 3% even by late 2026.
An increase of that magnitude could make it difficult to justify further interest rate cuts. Simultaneously, the jump in gas prices—if sustained—could slow the economy by diverting more consumer spending to fuel, leaving less money for other goods and services. This could lead to higher unemployment later in the year, with the rate already ticking up to 4.4% in February from 4.3%.
These two outcomes—higher inflation and higher unemployment—typically pull the Fed in opposite directions. The central bank may keep rates unchanged or even increase them to combat inflation, while cutting rates to stimulate spending and hiring. A combination of rising prices and higher unemployment is generally considered the worst-case scenario for central bankers, adding pressure to their decision-making process.
Powell's Final Meetings and Political Uncertainty
This week's meeting is among the last with Jerome Powell as chair, as his term ends on May 15. President Donald Trump has nominated Kevin Warsh, a former top Fed official, to replace him. However, Warsh's nomination has been delayed in the Senate due to objections from key Republican senators over a Justice Department investigation into Powell's testimony regarding a building renovation.
Last Friday, a judge threw out a pair of subpoenas issued by the Justice Department to the Fed, dealing a blow to the investigation. U.S. Attorney Jeannine Pirro has stated she will appeal the ruling. Unless Warsh is confirmed by May 15, Powell could remain chair of the Fed's rate-setting committee until a replacement is named, making this week's meeting his second-to-last in that role.
Pre-Existing Economic Weaknesses
Even before the Iran war, problems had emerged in both inflation and jobs data, putting the Fed in a tight spot. In January, prices rose more quickly than in recent months, with inflation excluding food and energy reaching 3.1% compared to a year earlier. This figure is little changed from two years ago, indicating that prices are still rising at a stubbornly elevated pace.
On the employment front, hiring has stumbled. Businesses and other employers shed 92,000 jobs in February, following an encouraging gain of 130,000 in January. This unexpectedly weak showing highlights the fragility of the labor market, further complicating the Fed's policy decisions as it balances inflation control with economic support.
