The Fed’s decision to hike interest rates this past week isn’t supported by the economy’s performance. But it may make sense if the move was intended to establish the Fed’s independence under the new chair. The President has said he wants the Fed to cut rates, yet the FOMC voted unanimously to raise them.

The odds of a serious Fed policy mistake are uncomfortably high and rising. Markets are all but certain the Fed will raise rates a quarter point at next week’s meeting, and are pricing in more to come. But the economy is already growing near potential (2% real GDP growth) and operating at full employment (unemployment a bit above 4%). Inflation is too high, to be sure, running above 3%. But much of that is the fallout from higher energy prices and tariffs, supply shocks that rate hikes can’t fix and that should fade on their own so long as inflation expectations stay anchored, as they have. If the Fed tightens to bring inflation down faster, it must push growth below potential, and that is hard to do without layoffs, rising unemployment, and igniting a self-reinforcing negative cycle. The challenge is even more complicated because AI-related investment appears to be powering the economy, while the non-AI economy is already struggling. To hit its inflation objective, the Fed either needs to rein in the AI boom or put even more pressure on the rest of the economy. Neither is a good outcome. Of course, it doesn’t have to choose either. It can wait.

The economic angst many Americans feel has much to do with how the economic pie is being divided. From WWII to Y2K, workers received close to two-thirds of the pie, while capital received the other one-third. Since then, China’s rapid entry into the global economy, the Global Financial Crisis, the pandemic, and other forces have put labor on its heels, pushing the split closer to fifty-fifty. Measurement issues matter, and the exact shares are reasonably debated, but the direction is not. And it's not hard to imagine artificial intelligence supercharging this trend. Many Americans fear it will.