Democrats are wrong. The Federal Reserve cannot pause in its fight against inflation. In August, Federal Reserve Chairman Jerome Powell observed that “without price stability, the economy does not work for anyone. Without price stability, we will not achieve a sustained period of strong labor market conditions that benefit all.” Powell also stated clearly that a “sustained period of below-trend growth” and economic pain would be necessary to restore price stability.
The Federal Reserve remains behind the curve on restoring price stability, defined as 2% inflation over the course of an economic cycle. Price stability is important because people and businesses do not have to worry about high inflation when making decisions about consumption, saving, or investing. The economy runs efficiently, and scarce capital is allocated appropriately when prices are stable. Everyone benefits from price stability.
INFLATION REMAINS WAY TOO HIGH
Of course, the Democratic Party and associated activists are shrieking about more interest rate increases because the midterm elections are just around the corner. Leftists cheered when Congress passed the American Rescue Plan Act, a $1.9 trillion package that professor Larry Summers said was too big and would lead to an inflation spiral. Leftists cheered when Congress passed the $1.2 trillion Infrastructure Investment and Jobs Act. Leftists shouted, “Hurrah!” when Congress passed the Inflation Reduction Act, which does not lower inflation. Now, the Left wants the Federal Reserve to stop raising rates when inflation is still climbing and will probably remain elevated for many months to come.
The Federal Reserve Bank of Cleveland provides frequent updates of its inflation forecasts for the consumer price index and the personal consumption expenditure index. In its latest forecast, the Cleveland Federal Reserve projects September headline CPI at 8.20% and core CPI inflation at 6.64%. And the bank sees the Federal Reserve’s preferred inflation metric, the PCE price index, for September at 6.24% for overall inflation and 5.11% for core PCE inflation. For October, the Cleveland Federal Reserve sees core PCE inflation rising by 1 basis point to 5.12%.
The data are clear: However measured, inflation in the U.S. economy is far from low and contained. In addition, the Federal Reserve Bank of Dallas opines that services inflation, residential shelter inflation, and healthcare inflation will continue to increase for many more months. The Dallas Federal Reserve says any improvements in the inflation picture have largely been confined to the goods sector. Services account for about 80% of overall economic activity. As the bank puts it, “Real spending on these services has not returned to its trend level, suggesting that demand could increase further as the effects of the pandemic on consumer behavior fade. A tight labor market is likely to continue to put upward pressure on these sectors, which tend to be labor intensive.”
If the Federal Reserve were to pause its interest rate hikes, its inflation-fighting credibility would be severely damaged. Inflation expectations, an important component of determining inflation, would increase.
Any pause in the inflation fight would inevitably lead to more interest rate hikes. The market hates uncertainty. Market volatility would increase. Uncertainty and volatility would increase the risk of a credit seize-up and a deep recession.
The Federal Reserve is speaking with one voice on interest rate policy. Rates must increase to defeat inflation. Allow facts to determine interest rate policy, not political expediency. Leftists got their cake; now they get their medicine: sharply higher interest rates, because deficit spending does matter.
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James Rogan is a former U.S. foreign service officer who later worked in finance and law for 30 years. He writes a daily note on finance and the economy, politics, sociology, and criminal justice.
