We don’t envy the Federal Reserve Board as it tries to walk the tightrope between two undesirable economic outcomes: high inflation or a recession.
This week, Fed Chairman Jerome Powell said that it would keep raising the benchmark interest rate until it was clear that inflation was coming down.
Raising the interest rate, which makes borrowing more expensive, cools off the economy, which in turn lowers inflation by bringing the supply and demand for goods, services and labor into better balance. But cool the economy too much, and spending dries up, which then produces layoffs.
It’s a tricky proposition.
The Fed clearly underestimated how big the boom would be after the COVID-19 pandemic began to lessen and consumers, flush with government stimulus money they had stockpiled, were able to get out again and start spending money. All that pent-up demand, coupled with the supply-chain and labor-shortage issues that put manufacturers behind, drove up prices on most everything.
The spike in inflation, which some economists initially predicted would be temporary, looked to be settling in, hitting 40-year highs this spring. The super-low interest rates that had been in place for years without fueling inflation were now a problem.
It depends on your circumstances as to which poison you prefer — high inflation or high interest rates. If you’re living on a fixed income and don’t have much in the way of savings, high inflation is your enemy. If you are wanting to buy a house or expand a business, high interest rates might derail your plans.
Let’s hope Powell and his colleagues on the Federal Reserve are able to strike the right balance.