Stagflation ghost reappears! As Wosh takes over the Federal Reserve, the U.S. economy may face a "perfect storm" with interest rate paths still undecided

Bloomberg News has learned that Kevin Woor may face a tough test when he takes over as Federal Reserve Chair, making difficult choices between fighting inflation and protecting the job market.

The Federal Reserve is responsible for supporting its sometimes conflicting dual mandates—price stability and maximum employment. There are basically three ways to achieve this: raise interest rates to curb demand and fight inflation; cut rates to support economic growth and employment; or, ideally, keep rates unchanged to balance both.

However, the brewing economic environment suggests that when Woor is expected to take office in May, policymakers may face both unstable employment conditions and stubborn inflation worsened by spiraling energy prices.

In the current environment, the Middle East conflict has sharply increased energy prices, with WTI crude briefly soaring above $100 a barrel on Monday, then retreating after U.S. President Trump assured that the conflict would end soon. Meanwhile, data released last Friday by the U.S. Bureau of Labor Statistics showed that nonfarm payrolls decreased by 92,000 in February, marking a negative figure for the second time since October 2025, well below market expectations of a 59,000 increase; the unemployment rate was 4.4%, the highest since December 2025, slightly above the expected 4.3%. Additionally, December’s nonfarm job gains were revised down from 48,000 to -17,000, and January’s from 130,000 to 126,000. After revisions, total nonfarm employment for December and January was 69,000 lower than previously reported.

Troy Ludtka, senior U.S. economist at Sumitomo Mitsui Trust Bank Securities: “A perfect storm is waiting for him. We see quite evident stagflation pressures, especially from manufacturing and commodities. Meanwhile, consumer spending also seems to be showing cracks—I wouldn’t say it’s already collapsing, but it might be starting to break apart.”

Stagflation, the coexistence of high inflation and low growth, is the Fed officials’ worst nightmare. It could mean they have to prioritize one of the dual mandates, risking both falling short.

Difficult Choices

For Woor, the stakes are especially high. Trump has openly expressed his hope that Woor will push for significant rate cuts. Trump and his officials have long believed—at least before the Middle East conflict erupted—that inflation was no longer a major threat to the economy, and that the Fed should continue the rate-cutting cycle that began last September.

But pleasing Trump is not easy. Even before recent energy price surges, manufacturing costs were already rising. A price index from the Institute for Supply Management hit its highest level in nearly four years in February, with U.S. factory purchasing managers reporting ongoing cost increases, partly due to tariffs implemented by Trump.

Ludtka warns that if energy prices stay high, U.S. overall inflation could rise above 3%, while consumer finances weaken and the labor market also deteriorates. Although economists generally believe that energy price increases have limited transmission to the broader economy, since the Middle East conflict erupted, urea fertilizer prices have surged 15%. Rising fertilizer costs often translate into higher food prices, adding new inflation pressures.

Meanwhile, Woor also faces a Federal Open Market Committee (FOMC) that is already divided on policy paths. While the central bank typically views oil shocks as short-term factors, if the shocks persist, they may have to deal with longer-term disruptions.

Rate Cuts Still Possible

Ludtka says, “Woor will soon face an extremely divided committee environment, which will only deepen. If oil prices stay high and inflation remains resilient amid a weak labor market, they will be forced to choose between the two.” Despite the upside risks to inflation, Ludtka adds that he believes “the path of least resistance for policymakers remains rate cuts.”

A positive factor for the Fed and the incoming Woor is that consumers are still spending, although this resilience is mainly concentrated among high-income households. According to Bank of America, February consumer spending rose 3.2% year-over-year, the largest increase in over three years. However, the bank also notes that after-tax wages for high-income groups grew 4.2% annually, while for low-income groups it was only 0.6%, the largest gap in this series since 2015.

Monetary policy has limited effectiveness in addressing income inequality. But if more signs emerge that consumers—especially low-income groups—are struggling under the dual pressures of higher prices and a weak job market, Fed officials may be more inclined to ignore a brief spike in oil prices.

Bank of America economists also believe the market may be misreading the current situation, assuming the Fed will automatically prioritize fighting inflation. Traders have recently lowered expectations for rate cuts, now expecting the first cut in September, with a second possibly delayed until 2027.

In a report, Aditya Bhave, an economist at Bank of America, states, “The market’s reaction to the surge in oil prices is generally hawkish. A hawkish stance means the Fed is more likely to focus on inflation and keep rates high. This could be a mistake.”