Opinion: Powell will have to push rates higher so the Fed can bring inflation to 2%

Inflation is proving harder to contain than Federal Reserve Chairman Powell predicted, and although Signs that a recession may be comingConsumers and businesses do not appear to have received the memo.

As US inflation peaks at 9.1% in June 2022, analysts think about half of the problem is related to the COVID-19 pandemic. supply-side congestion — including factory closures slowing operations in China, clogged ports and semiconductor shortages.

Once those knots were clear, inflation remained precarious due to insufficiently restrictive US monetary and fiscal policies.

Federal budget deficit – thanks to increase benefit spendingChips and R&D Act, Inflation Reduction Act, bailout package for union pension system and the war in Ukraine — estimated by the Congressional Budget Office in $1.41 trillion for fiscal year 2023. That’s a huge increase from fiscal 2019, the last year before the pandemic, when the budget deficit was 984 billion USD.

Overall, the deficit has widened to 5.4% of GDP from 4.6% before COVID and is expected to grow to 6.1% by 2025. Those percentage differences may not seem like big, but they are in reality. In fact, they reflect many additional stimulus measures.

President Joe Biden promised that his proposed budget, due on March 9, would limit the spending deficit by 2 trillion dollars in 10 yearsbut that pales in comparison to the $21 trillion skyrocketing federal debt held by the public that the CBO projects by 2033.

Budget discipline is really not possible without entitlement reform.

Blame what you like – Trump’s tax cuts or Biden’s progressive agenda – but negotiations to raise the national debt ceiling and limit federal spending are turning into a political farce .

Right of representation 64% of federal spending and another 9% is debt service. House Republicans can ask for spending cuts to raise the debt ceiling, but they haven’t drawn up a budget or plan to cut benefits.

President lures Republicans by saying they want to cut Social Security and Medicare. Republicans deny any such intentionbut budget discipline really can’t be done without entitlement reform.

That requires bringing Social Security and Medicare back to long-term solvency by increasing retirement and qualifying ages, along with reasonable measures to limit other safety net programs. . For example, the eligibility limit for Childcare tax credit and Food Stamps for working adults, people with disabilities, and Medicare-eligible seniors.

Against this backdrop, the Fed has been largely unaffected. When former Fed Chairman Paul Volcker attacked Great Inflation, the rate of price growth peaked at 14.8% in March 1980, and the Fed subsequently raised the federal funds rate to about 19%.

So far, the Fed has raised the effective federal funds rate by more than half from last June’s peak inflation and interest rates on both 1-

and 10-year Treasury bonds

current is about 5% and 4% respectively. Measured against the most recent CPI, real interest rates are negative.

During the first 12 months of the pandemic, the Fed kept the federal funds rate close to zero with inflation at 1.1%. Now the federal funds rate is below 5% with inflation at 6.4%. That larger gap makes monetary policy seem less restrictive today than it did when the economy was in the midst of a pandemic shutdown.

A lot of media has been devoted to big tech and lay off the investment bank but before are over-employed during the pandemic with an increase in demand for technology services and later bonus structures create an accordion effect with up and down trading flows. Elsewhere in the economy, hiring is strong, employment opportunities exceed the number of unemployed people 2 in 1, wages are increasing by about 6% per year and households are still confident in spending.

The Fed places great expectations on consumer expectations. Expected one-year inflation as measured by the Conference Board average, New York Fed And University of Michigan survey is 5%. Inflation expectations are measured by the difference between the nominal Treasury rate and the inflation-adjusted one-year interest rate and consumer survey. consistently underestimated inflation a year later.

Mortgage tells a story

Sentiment surveys are good, but observing market behavior is better. So let’s look at the mortgage market.

In October, the 30 year mortgage interest rate peaked at 7.1%, but fell to 6.2% in mid-January. Home builders reported a surge IN interested buyersmortgage application for home buyers pop up. Households would not consider a 6.2% mortgage as a burden if they expected inflation to continue to soar.

To be fair to the Fed, the CPI is exaggerating inflation, because Rent on new leases has been reduced And those filters into the index with delay.

Later this year, the cost of shelter will drag inflation down. However, if the job market resumes its strong hiring pace, rents will start to rise again and drag on inflation, again with a lag.

Ultimately, the Fed will have to raise rates even more to bring inflation down to 2% and keep them there.

Peter Morici is an economist and professor emeritus of business at the University of Maryland, and a country columnist.

Than: What stock market investors want to hear when the Fed’s Powell testifies before Congress this week

Also read: Fed’s Daly sees need for ‘higher for longer’ interest rate policy


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