Earlier this week, I dug into the Federal Reserve’s decision to raise interest rates for the first time since 2023. That’s in spite of the fact that the chair, Kevin Warsh, was picked by a president who has been demanding cuts.
You can catch up here:
Now, it’s time for The Professor Is In, where I sit down to answer audience questions. Think of it like office hours, where my producer Augusta joins me for a discussion.
This is still a pretty small move
Augusta started with a sensible question: What does this all mean for consumers?
The Fed raised its target to a range of 3.75% to 4%. That’s up a quarter of a percentage point, and it made the front page of the New York Times and the Wall Street Journal.
Can we pause and admit that’s pretty small? Whether rates are 3.75% or 4%, most of our lives look about the same.
What matters most in economic policy is being in the right neighborhood. (There’s a deep economics theorem about this, called the Envelope Theorem. Let’s make a date to talk about it in the future.) We’re in the right neighborhood. We’d probably still be in it if the Fed had held steady. If the Fed had cut to 1%, as the president asked, we’d be in the wrong neighborhood, and the consequences would have been serious.
No alarms raised here.
Of course, a quarter-point rate hike does matter. Borrowing will get more expensive, for mortgages, car loans and business loans alike. That’s tough if you’re looking to buy new things. But if you have money in the bank, you’re a lender, and higher rates are good news for you. Still, markets had already priced in about 92% odds of this move. So what really mattered is less the actual rate change decision the Fed made on Tuesday, and more what it signals about the future. (Silent Kevin thinks it signals nothing. Markets disagree. Markets are right on this one.)
The mechanism matters
Which brings me to Augusta’s next question: How does any of this actually slow inflation?
There’s the blunt channel, which is the one that gets all the air time on TV. Higher rates mean fewer new houses and fewer business investments that make sense, so there’s less economic activity and less pressure on prices. But the less obvious channel is expectations.
Imagine I’m the new Fed chair and I put on a serious voice and tell you: I hate inflation. I hate it so so so much. Now imagine my serious voice works and you believe me.
Now, let’s say you run a restaurant. It’s time to print next season’s menu! If inflation is going to be low, you don’t expect your costs to rise much, nor will your competitors raise their prices much. So you print modest prices. Other restaurants go through a similar process, so they don’t raise their prices by much either.
The expectation of low inflation created the reality of low inflation.
Imagine that instead, I put on a silly voice and say: I’m a clown, I’m the world’s worst Fed chair, and I’ll keep rates ridiculously low because the president wants me to. Now, you expect low rates will spark unhelpfully high inflation. As such, you expect your suppliers to raises their prices, and the place across the street to raise prices. So you print higher prices, and so does everyone else.
Same restaurant. Same menu. The only difference is whether you believed the guy at the podium. Also, whether you liked my impressions, but since this is a written medium, you’ll just have to have fun imagining it. But in the video I did put on a silly voice.
The point of the silly voices is to make the case that Kevin Warsh’s real task this weak wasn’t raising rates by a quarter of a percentage point. It was convincing us he’s hawkish Kevin, the bloke who brings inflation down no matter what. We knew who Jay Powell was: boring, in the best way. We don’t yet know who Warsh is. If he convinced us, that matters far more than the hike.
More on the Warsh Fed
Other questions Augusta put to me:
How does an overnight loan between banks — that’s what the federal funds rate is — end up shaping the rate on your car loan?
If a lot of inflation is coming from oil and tariffs, so what can the Fed actually do about it? (Answer: Unfortunately nothing Kevin Warsh does will open the Strait of Hormuz.)
Should we tie monetary policy to the price of oil?
Finally, if unemployment is so low, why is it so hard to find a job?
Warsh said the job market is strong enough to take a rate hike. At 4.1%, unemployment is low both by historical standards, and international standards. I don’t mean to be dismissive — that’s still a lot of people suffering.
But both things can be true. We’re in a low-hire, low-fire economy. Very few people are losing jobs, so very few are getting them. If you have a job, that feels fine. If you’re looking, especially straight out of school, it feels rotten.
Watch the full episode for the rest.
There is traditional inverse relationship between inflation and unemployment is illustrated by the Phillips Curve. When the Federal Reserve raises rates to pull down inflation, a rise in unemployment is the standard structural trade-off.
Considering the context of the August 2026 data—where the labor force participation rate has dropped to 61.6% and wage growth is already decelerating—further rate hikes risk compounding structural softness. If consumer demand drops sharply while labor participation is already low, the current 4.1% U-3 unemployment rate would likely face swift upward pressure as companies transition from slow hiring to active workforce reductions. 12-month change in the labor force participation rate is a decrease of 0.7 percentage points, falling from 62.3% in August 2025 down to 61.6% in August 2026.
Summary of Economic Projections (SEP) released on Wednesday, September 16, 2026, the median forecast showed the unemployment rate holding steady at 4.1% for both 2026 and 2027 The Fed is forecasting a "Soft Landing": a rare economic scenario where they can hike rates to choke off inflation without causing companies to fire workers. While resilient GDP growth projections (+2.4% for 2027) give them hope, economic history suggests that maintaining a 4.1% interest rate through 2027 will inevitably trigger a rise in layoffs, making an flat 4.1% unemployment rate through 2027 structurally unlikely.
Therefore in my opinion the FOMC and in particular "rookie" Chair Warsh are ignoring economic reality of the labor market (and bankruptcies in small businesses) by hiking short term rates in order to make a political statement of being "independent" but they risk if there is recession and stock market drawdown of 20% in 2027 the FOMC and Chair Warsh will be blamed like a "rookie" Chair Greenspan was in 1987. for the stock market Crash.