Just one month after inflation blew past “expert” expectations that inflation had already peaked and instead hit a new 40-year high, inflation has now hit a 41-year high. June’s consumer price index increased by a staggering 9.1% on an annualized basis, and, contrary to the White House’s hopes that it could scapegoat gas prices (which have since slumped thanks to a demand contraction of its own making), core inflation accelerated.
None of this should shock the most elementary student of economics. After maintaining a decade of near-zero interest rates during the longest bull market in history, the Federal Reserve used the pandemic as an excuse to flood the economy with an extra $6 trillion since February 2020, or more than a quarter of all dollars in circulation today. Then, when President Joe Biden signed his $1.9 trillion American Rescue Plan into law, inflation quickly soared to its highest rate since the Great Recession by the summer of 2021 and since 1982 by the end of last year. The Fed kept interest rates at zero until March of this year, when it blamed Russia’s invasion of Ukraine for voting on a 25 basis point increase to the interest rate instead of a half percentage point increase. Last month, it voted on an unprecedented 75 basis point increase.
All of this has stoked recession concerns from the financial class and a full-blown meltdown from the Magical Modern Monetary Theorists, whose delusion that rendering the borrowing of capital free (or even profitable, in the case of negative interest rates) has been blown up. Even with the White House’s lie that inflation would peak in May thoroughly debunked, Sen. Elizabeth Warren had the audacity to charge the Fed not with doing too little but rather with raising rates too quickly.
Let’s do some simple math to determine whether the Fed has done too much to combat inflation. If CPI inflation is careening toward the double digits while the Fed’s current target rate is between 1.5% and 1.75%, our real interest rate is still overwhelmingly negative. I’ve already detailed in length why the overall CPI rate vastly underestimates inflation and the core CPI rate even more so, but if we are as generous as possible and plug in the Fed’s preferred inflation rate, core CPI, and the upper benchmark of its rate target into the Fisher equation, real interest rates are still at negative 4.15%.
Inflation is already a particularly nefarious beast for myriad reasons. Not only does it break the rules of the economy by blurring price signals in a way recessions do not, but it is also self-perpetuating, and not just in entrenching inflationary expectations and triggering wage-price spirals. Even in the best of times, inflation means that individuals are better served spending their money rather than letting it rapidly depreciate in their savings accounts, artificially amping up consumer demand, which only exacerbates inflation by continuing to flood the economy with cash. And now that the Fed has kept real interest rates negative, the highest performing savings accounts in the market offer just a fraction of a percentage point in annual interest returns. Thus, the Fed is encouraging individual behavior that is even more conducive to extending this inflationary crisis.
The political blame game for the White House will center on gas price data, as the June CPI number doesn’t reflect the price decrease due to diminished demand, but given the rise in core inflation, that gas deflection is auxiliary at best. The fact is that the problem has run away from the control of presidential power, and only the Fed has the real ability to stop it. And Fed Chairman Jerome Powell continues to push the fiction of a soft landing. Recall that the last time inflation was this high, former Fed Chairman Paul Volcker had already put nominal interest rates into the double digits for over a year.
It’s true that reducing the deficit, which even before the pandemic was projected to eat up 9% of our annual economic output by the mid-century, ought to be a priority of any president at this point, and Biden can obviously abate energy and food shortages by relaxing his regulatory regime. But the inflation problem has become entrenched across the economy, from bursting asset price bubbles to broken price signals. Inflation is and always has been a monetary problem with a monetary solution.
The writing has been on the wall for some time now. The past decade of the Fed’s quantitative easing experiment has failed, and neither the markets nor the federal government can continue to be bailed out by central bankers. The only way out of inflation is through.
