February 7, 2023

What Comes Next in the Fed’s Fight Against Inflation?

If the Fed continues raising rates along the trajectory that economists and investors increasingly expect, the fallout could be painful. In the early 1980s, the last time inflation was as high as it is today, the central bank under Paul A. Volcker jerked borrowing costs sharply higher and mired the economy in a recession that sent joblessness to double-digit levels. Homebuilders mailed Mr. Volcker two-by-fours from buildings they could not build; car dealers sent keys from cars they could not sell.

This year’s rate increases are not as severe. The Fed has raised rates from near zero in March to a range of 2.25 to 2.5 percent, and this week’s expected move would take that to 3 to 3.25 percent. If the central bank raises rates as much as investors expect over the coming months, they will end the year well above 4 percent. In the 1980s, rates jumped to about 19 percent from 9 percent.

Still, four full percentage points of rate increases in 10 months would be the fastest policy adjustment since Mr. Volcker’s campaign — and while Fed policymakers have been hoping that they can let the economy down gently and without causing a painful recession, economists have warned that a benign outcome is less and less likely.

That central bank has emphasized that it has an obligation to get inflation back in check.

The Fed has two economic goals: maximum employment and stable inflation around 2 percent. While unemployment is currently very low, prices are increasing at more than three times the target rate based on the Fed’s preferred measure and remained stubbornly rapid and broad in August.

As inflation has lingered month after month, the Fed has repeatedly ramped up its response. It lifted rates a quarter point in March, a half point in May and three-quarters of a point at each of its past two meetings. Like investors, many economists think that a full percentage-point move is possible but not likely this week.

A big reason for raising rates quickly is to convince businesses and consumers that the central bank is committed to reining in rapid price increases. If workers begin to believe that inflation will last, they may push for higher wages to cover their costs, which employers then pass onto customers in the form of higher prices, setting off an upward spiral.

Article source: https://www.nytimes.com/2022/09/20/business/economy/federal-reserve-preview-forecasts.html

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