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Can the Fed Bring Inflation Under Control Without Causing a Recession?

Fed Bring Inflation Under Control

Fed Bring Inflation Under Control

The United States inflation rate has dropped from 9% to 3% over the past year, easing much of the price pressures that have plagued the country for over two years. It is anticipated that it will take considerably longer and more effort to squeeze out the remains of the excess inflation and bring it down to the Federal Reserve’s target rate of 2%.

How Hard of a Squeeze Should the Fed Make to Achieve 2% Inflation?

When examining the U.S. economy as a whole, Timmermann and co-authors Simon Smith of the Board of Governors of the Federal Reserve System and Jonathan H. Wright of Johns Hopkins University claim that significant portions of prior data linking labour markets and inflation are useless because inflation was so low for many decades with periods of inflation as high as it is now mostly confined to the 1970s.

The researchers examined unemployment and price fluctuation across time in major U.S. urban regions, states, industries and across 28 different EU member states. This was done to extract more information from the data.

Fed 2% Inflation

Timmermann and co-authors discovered patterns that aid in explaining the numerous factors influencing the current economy using a statistical technique called panel regression. This technique enables researchers to study pooled-cross data sections such as employment and price levels in multiple cities and at various times.

Timmermann said:

“The strong trade-off between inflation and unemployment in hot labor markets like the current one suggests that inflation could be higher for longer unless the Fed’s past and future actions interest rate rises manage to cool down the labor market quite significantly.

“In other words: so far the Fed has managed a soft landing with significant declines in inflation over the last year or so without increasing unemployment. But bringing down the current inflation rate from 3% to the target of 2% without risking a much weaker labor market with higher unemployment could prove far more difficult.”

He continued by saying that with salaries rising at this rate, keeping overall inflation at 2% would be extremely difficult. Although Timmermann does not currently see any indications of a recession, one may develop over the next year or so if the Fed can keep inflation below 2%.

In such a situation, consumers should anticipate interest rates to be higher for a longer period of time which will affect businesses that must obtain money by issuing bonds with higher interest payments and result in higher mortgage rates and lower home prices. They will have less money as a result to pay existing employees and hire new ones.

Jerome Powell, the head of the Fed tries to explain why 2% inflation is the goal in a tweet below:

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