In the Homeric epic Odyssey, the hero Odysseus navigates the storms of the “wine-dark sea,” seeking to return to his home and family after many years of war-fighting. He must first pass through a narrow strait of water, one with dangers on both sides. To the left is Scylla, a monster living in the rocky cliffs, capturing and devouring sailors who get caught up in the shallows too close to shore. On the other side is Charybdis, a deadly whirlpool capable of engulfing Odysseus and his men and destroying his ship.
Federal Reserve Chairman Kevin Warsh similarity finds himself between a rock and a hard place. Like Odysseus, Chairman Warsh must navigate a narrow passage (one might imagine the Strait of Hormuz) between the hidden shoals of economic recession, on the one hand, and the draining whirlpool of run-away inflation, on the other.
While the Fed’s June Open Market Committee determined to maintain overnight interest rates at the current 3.5 to 3.75 percent target range, Warsh adopted a hawkish tone, and half of the committee members expect to raise rates later this year. Investors currently place two-thirds odds on at least one rate increase in 2026.
Raising rates too much or too fast will have several serious consequences. First, it will raise the cost of credit and borrowing for private-sector businesses at a time when few can afford it. The economy is growing, but slowly, and with a lop-sided tilt towards a few hot sectors like AI. The estimate for first-quarter real Gross Domestic Product (GDP) growth was just revised downward from 2.0 percent to 1.6 percent, and the consensus for the full-year 2026 growth is hovering around two percent.
Hardly a robust scenario to begin with, higher rates, like higher fuel and energy costs, will further dampen economic growth.
Second, higher interest rates will raise the cost of borrowing for the U.S. government as it seeks to refinance its $38 trillion of national debt, and to raise even more debt to support continued deficit spending in support of the Iran War and numerous untouchable entitlement programs. Not to mention that higher rates would risk popping the bubble currently expanding in U.S. equity markets. To be sure, some air needs to come out of the stock market’s balloon, but ideally this would occur slowly as the real economy continues to grow, not with a sudden bang as we have witnessed in the dot-com bubble and the global financial crisis.
Still, lowering interest rates risks refueling and expanding an inflationary wildfire. May’s Consumer Price Index (CPI) result of 4.2 percent (up from 3.8 percent in April) was largely driven by rising energy prices as a result of the Iran War. Core CPI, which excludes food and energy prices, was up 2.9 percent, consistent with the near three percent range it has tracked for the past two years. Core inflation has proven “sticky,” not “transitory,” even with higher rates, and well above the Fed’s two percent target.
Lowering rates will provide further stimulus to the speculative frenzy in financial assets, and lead to higher goods and services prices across the real economy. Inflation will benefit the government (the nation’s largest debtor) and Wall Street, but hurt the consumer and main street businesses already strapped by higher prices. Since 2020, the purchasing power of the dollar has fallen by thirty percent. We were told that U.S. inflation was temporary, but the prices of food, housing and transport haven’t fallen as many hoped. The whirlpool feels like an apt inflationary metaphor for Americans who find the value of their hard-earned dollars being washed down the drain.
So our modern-day Odysseus must somehow navigate the middle course as he takes the helm of U.S. monetary policy, the rudder steering the ship of our national economy. Veer too far to the left (higher rates), and the economy founders on the rocks of recession. Veer too far to the right (lower rates), and the inflationary whirlpool undermines American households. The political pressures (not just from the White House, but from the U.S. Treasury, responsible for refinancing the debt) lean heavy to the right and to lower rates. When governments (and politicians worried about their jobs) are forced to choose between recession and unemployment, on the one hand, and inflation on the other, they have chosen inflation time and time again.
Let’s hope our hero finds the compass pointing towards a neutral interest rate (one neither too stimulative nor too repressive) and the courage to hold to a safe passage, unpopular as that may be.