Imagine paying $10 for a gallon of milk, $20 for a dozen eggs, or $100 for a pair of jeans. That’s what some Americans are facing as inflation hits its highest level in more than four decades. The Fed- and government-fueled inflation hurts Americans. What the Fed did next hurt them more.
Inflation is the general increase in the prices of goods and services over time. It reduces the purchasing power of money and erodes the value of savings and investments.
Inflation Hurts Americans
The US inflation rate has soared to 9.1% in June 2022, dropping to 4.9% in April 2023, the lowest since April 2021, with market forecasts of 5%. This was the highest point since September 1981, boosted by higher prices for food, shelter, used cars and trucks, and medical care.
The average cost of living increased by 4.9% in the past year, while wages only increased by 2.6%.
Some prices rose even faster than the average, such as food (+7.7%), shelter (+8.1%), used cars and trucks (-6.6%), and medical care services (+0.4%).
The main drivers of inflation are global supply chain disruptions caused by the government responses to COVID-19. This led to surging demand for goods and services after a year of unprecedented food factory fires and other food production disruptions, rising energy and commodity prices, profligate government spending, and government fiscal and monetary stimulus measures that boosted some household incomes and spending.
The high inflation hurt many Americans, especially those on low and fixed incomes, such as seniors, students, and welfare recipients.
Inflation has made it harder for many people to afford essentials, such as food, rent, utilities, and transport.
The cost of borrowing and servicing debt increased with each rate rise. This affects such things as home mortgages, car loans, and credit cards.
What The Fed Did To Cause It
The Fed was buying billions of dollars in treasuries and mortgage bonds as part of their ongoing strategy to push inflation up to 2 percent. They said this would stimulate the economy and support the recovery from the pandemic. Critics argued that it predictably stoked inflation and risked overheating the economy. They point out that inflation was rising faster than expected and that the Fed’s bond binge distorted market signals and reduced the incentive for fiscal discipline. [MSN] [MSN]
The Fed maintained the inflation was transitory and that it would taper bond purchases once it saw substantial progress towards its goals of maximum employment and price stability. They didn’t.
The Fed also signaled they were not in a hurry to raise interest rates, which were near zero at the time. The Fed’s policy rate reflected market expectations of future inflation and economic growth. The 10-year breakeven inflation rate, which measures the difference between the yields of nominal and inflation-indexed treasuries, was at 2.21 percent, slightly above the Fed’s target.
In summary, the Fed’s bond buying program contributed to inflation by increasing the money supply and lowering interest rates. It was not the only factor behind inflation. Other factors include supply chain disruptions, artificial labor shortages caused by government COVID policies, pent-up demand, and rising commodity prices.
What the Fed Did About It
The high inflation has also put pressure on the Federal Reserve and they raised interest rates sooner and much faster than they said they would.
Just over one year ago, on March 16, 2022, the Federal Open Market Committee raised interest rates for the first time. They followed that up with seven more rises. Their stated aim was to stop inflation that officials spent a year denying it was a problem, calling it “transitory.”
The Federal Reserve is responsible for maintaining price stability and supporting economic growth and employment.
It does this by setting the federal funds rate, which is the interest rate that banks charge each other for overnight loans.
The federal funds rate influences other interest rates in the economy, such as the ones we hear about most often, mortgage rates, deposit rates, and business loan rates.
The Federal Reserve uses the federal funds rate to control inflation by making borrowing more or less expensive.
When inflation is too high, the Federal Reserve raises the federal funds rate to slow down spending and demand. The problem is this is a very coarse control and easily hurts people with little capacity to withstand changes.
When inflation is too low, the Federal Reserve lowers the federal funds rate to stimulate spending and demand. This often has no effect on the poor.
The Federal Reserve kept the federal funds rate at a record low of 0-0.25% since March 2020 to support the economic recovery from the government response to COVID.
However, in response to rising inflation and strong economic growth which it helped cause, the Federal Reserve then announced it would start raising the federal funds rate from late 2023 or early 2024.
It also signaled reducing its bond-buying program, which injected money into the economy and kept interest rates low.
The Federal Reserve uses these measures will try to bring inflation back to its target range of 2% over time.
However, it knows that raising interest rates too quickly or too high will cause job losses and hurt economic growth.
It also said that it will take into account other factors, such as wages growth, unemployment, household debt, housing affordability, and financial stability.
Like other central banks, the Federal Reserve urged Americans to be patient and prepared for higher interest rates in the future.
It also advised Americans to shop around for better deals on their loans and savings accounts.
It also encouraged Americans to diversify their income sources and investments to hedge against inflation risk. This is a bit rich when they know their actions cause job losses.