Fed Policy Is Becoming More Accommodative with a Steady Fed Funds Rate

Milton Friedman taught us that when it comes to evaluating the stance of monetary policy, look at monetary quantities, not the level of interest rates. A given level of federal funds rate can represent a tight monetary policy if the demand for credit is weak. In this case we would expect to see a relatively low rate of growth in bank credit. Similarly, that same level of the federal funds rate can represent an easy monetary policy if the demand for credit is strong. In this case we would expect to see a relatively high rate of growth in bank credit.

The federal funds rate has been at a level of 4.33% since December 25, 2024. Yet, as can be seen in the chart below, growth in bank credit has increased significantly. In the 13 weeks ended May 21, 2025, the annualized growth in bank credit was 7.9%, the highest since mid-August 2022. Adjusted for consumer inflation, today’s 7.9% growth in bank credit is higher than it was in August 2022.

So, what is the rationale for cutting the federal funds rate? Perhaps because the pace of real economic activity is or might slow because of the effects of newly-imposed tariffs? Tariffs are akin to negative productivity shocks. The productive resources of the tariff-imposing country are employed less efficiently. Thus, the real potential rate of growth in the economy is reduced. To cut the federal funds rate in an effort to boost real economic growth would likely lead to faster growth in bank credit, which, in turn would result in stagflation. In the face of newly-imposed tariffs and relatively rapid growth in bank credit, one might even argue that the federal funds rate should be hiked. Wow, wouldn’t that be a surprise if the FOMC’s next move were to raise the federal funds rate?