A Rate-Cut Catch-22.

Friday morning gave the Fed another reason not to cut rates.

The U.S. added 162,000 jobs in August, nearly three times what economists expected, unemployment held at 4.1%, and traders quickly pushed the odds of another rate hike higher.

Then, a few hours later, came a rather different idea for getting rates lower.

A trade embargo.

President Trump threatened to stop trading with countries where the U.S. runs a trade deficit if interest rates don’t come down — describing the move as potentially more powerful than tariffs.

Which raises a pretty unusual economics question:

Could restricting trade actually help produce lower interest rates?

The proposed logic is understandable.

The economics are considerably messier.

And there’s quite a Catch-22 hiding in there. ⇩

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First, The Jobs Report?

Before we get to the embargo, Friday had already changed the interest-rate conversation.

Payrolls rose by 162,000, unemployment held at 4.1%, and the labor force expanded by 683,000 people. Wage growth also remained relatively moderate, meaning the report showed considerably more strength in employment without an equally dramatic acceleration in wages.

✱ In short: The economy added nearly three times as many jobs as expected, while unemployment held steady and more people entered the labor force.

→ For the Fed higher rates come with a trade-off: they can help restrain inflation, but they can also weaken hiring.

A labor market that is still adding jobs at a healthy clip gives policymakers more room to worry about the first problem without immediately creating the second.

! The probability of a September rate hike moved from roughly 55% before the report to above 60% afterward, while Treasury yields climbed and the dollar strengthened.

So Friday morning had already delivered a fairly conventional message:

Strong economy → more room for the Fed to keep rates high.

Then came a considerably less conventional proposal.

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So… What Exactly Is An Embargo?

→ A tariff makes foreign goods more expensive.

→ An embargo can make them unavailable.

A trade embargo is a government restriction that stops some or all trade with another country. Depending on how it is structured, it can block imports, exports, particular products, or trade altogether.

President Trump’s proposal: to stop trading with countries where the U.S. runs trade deficits unless the Federal Reserve lowers interest rates.

And there are quite a few dollars sitting on the other side of that sentence.

The U.S. recorded an $88.6 billion goods-and-services trade deficit in July, up 24.4% from June, as imports rose and exports fell. The goods deficit alone reached $119.6 billion.

So this wouldn’t be the economic equivalent of turning off a small faucet.

Which brings us to the interesting part:

How exactly is that supposed to lower interest rates? ↓

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The Idea.

The argument starts with something the U.S. has plenty of:

customers.

Countries around the world sell enormous amounts of goods into the American market. For countries running large trade surpluses with the U.S., losing access to those buyers would hurt.

That gives Washington leverage.

The proposed idea is to use that leverage — threatening to restrict trade with deficit countries — while pushing for lower U.S. interest rates.

President Trump argument: a strong country should have a lower interest rate because it represents better credit.

There is, however, another institution involved in deciding what American interest rates should be.

The Fed.

And the Fed is looking at a rather different set of numbers.

The Fed doesn’t set interest rates according to America’s trade deficit. Its monetary-policy decisions are centered on inflation and employment, and Chairman Kevin Warsh has recently emphasized inflation risks in explaining his policy stance.

Which creates the central problem with using an embargo to get cheaper money.

An embargo could affect the very inflation data the Fed is watching.

Here Comes The Catch-22.↓

Suppose the U.S. stops importing a product that American companies and consumers still want.

There are now fewer of those products available.

Companies can find another supplier, make the product domestically, substitute something else or simply buy less of it.

But none of those guarantees a lower price.

And that’s where the embargo idea starts running into the interest-rate idea.

→ An embargo restricts imports.

→ Restricted imports can reduce supply.

→ Less supply can raise prices.

→ Higher prices can add to inflation.

And inflation is one of the main reasons the Fed would keep rates high in the first place.

So a policy intended to create leverage for lower interest rates could simultaneously create economic conditions that make lower rates harder to justify.

That’s the Catch-22.

AI Somehow Got Involved↓.

There’s another wrinkle hiding inside America’s growing trade deficit.

A meaningful chunk of the recent increase in imports has come from computers and semiconductors.

Computer imports jumped 25% from June to July, while semiconductor imports increased roughly 10%.

Why?

Partly because American companies are spending enormous amounts of money building AI infrastructure.

And that creates a slightly strange accounting problem.

The computers, chips and machinery being brought into the country make the trade deficit larger.

But once they arrive, companies use them to build data centers and other infrastructure inside the U.S. — investment that supports construction, employment and economic growth.

In August alone, construction employment increased by 22,000 jobs, with data-center development helping support activity.

So some of the imports making one economic number look worse are helping make another look better.

So, What Happens From Here?

For now, the embargo remains a threat rather than a policy.

But it adds another variable to an interest-rate story that was already getting more complicated.

The labor market is stronger than expected. Rate-hike expectations have moved higher. The trade deficit is widening. And now trade policy has entered the rate conversation too.

What happens next will depend on whether any of that talk turns into actual policy — and, if it does, what shows up first in the data.

Jobs, inflation, trade or rates.

There are suddenly quite a few numbers worth watching.

Lesson Of The Day:

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