Opinion | The Courage Required to Confront Inflation

Jerome Powell, Chair of the Federal Reserve, has often exhibited a resolve for admiration by one of his predecessors, Paul Volcker, who was willing to crash into the economy in the early 1980s.

The United States is now higher than any time since Mr. Volcker’s recession, and Mr. Powell faces growing calls for the Fed to resolutely perform and do whatever it takes to control inflation, even if it hurts economic growth.

The present moment requires a different kind of courage. Instead of reprising Volcker’s shock-and-awe tactics, the Fed needs to pursue a more measured approach, one that would bring a deep recession into the economy without the underlying inflation. There is a risk that forgoing stronger measures now, the Fed will end up with greater pain. But there are also good reasons to think that the Fed can succeed – not least because of the enduring legacy of Mr. Volcker’s achievement.

The Fed has already begun to shut down the stimulus campaign that launched it in the spring of 2020 to limit the economic impact of the pandemic. The central bank raised its benchmark interest rate at its most recent policymaking meeting, in March, by a quarterly percentage point to a range of 0.25 points and 0.5 points. It is expected to accelerate this process by announcing an extraordinary half-point increase in the benchmark rate, and by announcing that it will begin to lower the cost of bond holdings and the costs of borrowing further.

It is time to raise rates. The economy has rebounded as Covid-19 has loosened its grip. Notwithstanding the quirky weakness of reported growth in the first quarter of 2022, inflation is now the primary economic problem confronting the United States. Prices are outpacing wage growth for most Americans, slowing prices to help eroding their living standards, and higher rates.

The Fed’s benchmark rate would need to rise somewhere between 2 percent and 3 percent to reach a level that is neither stimulating nor restraining growth. Some Fed officials and outside economists have argued for additional half-point moves in the coming months. Some are already convinced the Fed will need to raise rates well above that neutral level to break inflation. Under Mr. Volcker, the rate hit 20 percent. Mr. Powell, to his credit, has maintained a more measured tone. He said it was time for the Fed to move “a little more quickly.”

One reason to go slow is that it takes time to judge the impact of the Fed policy. The Fed has already initiated a significant reaction in the financial markets. Home mortgages on average interest rates, for example, have climbed sharply. The monthly mortgage payment is required to buy a median-priced home that has increased from $ 1,690 to less than $ 1,165 a year ago, according to Roberto Perli, head of global policy research at Piper Sandler.

Caution for another reason: Economists continue to debate the current inflation.

Some place the blame on the pandemic, which has resulted in sharp reductions in the availability of services and goods, driving up prices. With short supply in new vehicles, for example, used vehicle prices rose by more than 50 percent through January. More recently, Russia’s invasion of Ukraine has driven the energy and wheat for disrupted global markets, driving up prices of gasoline and food in many parts of the world.

Others, however, regard the federal government’s response to the pandemic as a key factor. On top of the Fed’s efforts are lower borrowing costs, and Congress’s trillions of dollars in aid. Instead of widespread job losses, the average household has more money to spend and more money to create goods and services.

Here’s why the difference matters: The central bank’s decision to raise interest rates can curb demand; Supply shortages, on the other hand, are best endured patiently. The Fed’s decision will ease them ahead of the week.

Lingering questions cautiously move to the Fed for another reason.

A goal of the Fed’s stimulus campaign was to return the economy to full employment, meaning that those who wanted to work could find it. By one popular measure, the unemployment rate, which sits at the lowest level of 3.6 percent, the Fed has succeeded, prompting some to question the need for continued stimulus. But the government’s definition of unemployment is narrow. It includes only people actively seeking work, while many Americans remain on the sidelines. About 1.6 million fewer people are working now than in early 2020.

In the 1970s, workers increased demand for higher-than-expected wages, while employers raised prices for higher-than-expected wages. This dynamic, which economists call a wage-price spiral, can be dangerously self-perpetuating.

But in the intervening years, American workers have experienced a significant loss of bargaining power. While many businesses say they are struggling to find enough workers, that is not the case for real wage gains. Businesses are raising prices much faster than they are raising wages, and they are reaping record profits. While inflation is up 8.5 percent over the past year, private-sector workers for wages are up by just 5 percent. In other words, there is no evidence the United States is entering a wage-price spiral.

Finally, Mr. Powell can afford to move more cautiously. Volcker and his successors have convinced the American public and global investors that the Fed is engaged in controlling inflation.

Mr. Volcker once told an interviewer that he was pacing his rug in a back-and-forth, wondering if the pain he was imposing would be the goal. It was a high cost to win a victory. Moving too fast to confront inflation, or raising rates too high, would squander it.

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