Inflation: Not a Passing Fad

Well, it seems that we now know what many analysts were saying all along: the Fed had the wrong take on inflationary trends in the economy. Remember last summer, about this time, when we were hearing the word “transitory” used to describe the inflationary signals beginning to show up in the prices of everything from cars to computer chips? Apparently, someone forgot to tell the economy. By now, we’ve seen inflation rising stubbornly for over a year, and even Fed Chair Jerome Powell has admitted that “transitory” doesn’t quite fit the inflationary picture in the US economy.

And it’s not just the US economy that is feeling the effects of higher inflation. the UK is looking at 11% overall price increases, and the Eurozone is experiencing an 8.6% inflation rate. South Korea’s 6% annual inflation rate is the highest in 24 years, and even Japan, which has flirted with deflation for the past 30 years, is seeing prices rise 2.5%. Meanwhile, back in the States, the latest measure (June) of the rate of increase in the Consumer Price Index (CPI), which measures the cost of basic goods, is up 9.1%—the highest rate since 1981. Leaving out the cost of gasoline and food, the rate was still 5.9% (but of course, most of us don’t get to leave gasoline and food our of our monthly purchase budgets).

How long will this inflationary cycle continue? And will the Fed be able to maneuver the economy into a “soft landing”: bringing inflation back to its target mark 2% without forcing the economy into a recession? It’s hard to say. The Fed has announced repeatedly—once it retired the word “transitory”—that the US central bank is committed to using every tool at its disposal to get inflation back under control,  including three-quarter-point interest rate hikes like the one announced in June and hinted at for July: the largest rate hikes since November 1994. The market is watching all this in real time, of course, and is swooning at every indicator that inflation could rage on, then bouncing on any hint—such as positive earnings reports from major corporations—that the economy isn’t headed for recession.

It’s a delicate dance for the Fed. The markets want to see indications that the central bank is willing to do what it takes to get inflation down. But at the same time, the markets are worried that if the Fed’s medicine is too strong, it could tip the economy into recession. In a way, it’s kind of like salt: the right amount makes your dinner taste better; but too much, and dinner is ruined.

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