Business Economy

Things may look shaky, but recession isn’t certainty – Harvard Gazette

GAZETTE: The Consumer Price Index released Wednesday shows inflation at 8.3 percent and the national average price per gallon of gas is at $4.40, according to AAA. What do these numbers tell us about where inflation is now or is going?

FURMAN: The inflation data is troubling because the price increases are so broad. For a while last year, you could make an excuse that, “Oh, it’s just car prices going up” or in March, “Oh, it’s just gasoline prices going up.” But now it’s the price of almost everything going up. And so, the broadening of inflation has been one concern. A second concern is that as some inflation rates slow, for example, the price increase of goods has slowed, other inflation has increased. The price of services, especially things like rent, has gone up.

If you want to ask what’s happened to living standards over the last year, the cost of living has gone up 8 percent. If you want to ask how much inflation we will have going forward, you want to take out volatile things like oil prices and gasoline prices because they’ve spiked really high, and they’re probably going to come down. We don’t want to assume that they’re going to keep increasing like they’ve increased. And so, economists often look at something called “core inflation” that tracks the volatile food and energy components. That’s running at more of a 6 percent rate instead of an 8 percent rate. It’s not as bad as the headline, but it’s unbelievably high compared to the 2 percent target the Fed has.

GAZETTE: The U.S. has decades-low unemployment and wages are up across every sector. That sounds like a good thing, but does the Fed see it that way?

FURMAN: The problem is that workers only have more power to get higher nominal wage increases. But what matters, of course, is the purchasing power of your wages. And that has been falling, not rising. So yes, workers have been getting larger nominal raises, but they haven’t been enough to keep up with inflation. At this point, the Fed would like people to be getting smaller, nominal raises because if people keep getting paid 5 percent more a year than they were getting the year before, it’s very hard to sustain that without higher inflation.

When the Fed raises interest rates, they reduce demand. Higher mortgage rates mean people buy fewer houses; higher car loan rates mean people buy fewer cars; higher borrowing rates for businesses means they invest less in power plants and equipment. All this cools off demand, reduces the number of workers people want to hire, and reduces the pay increases. The hope is it doesn’t hurt workers that much because it reduces inflation just as much as it reduces wage growth and so workers stay protected. That’s the hope, but very far from the certainty.

GAZETTE: There’s a split on whether we are heading for a recession. What factors will be most determinative in steering us clear from going there?

FURMAN: The most important is consumers. That’s 70 percent of the economy. Consumers have been seeing their inflation-adjusted pay falling, but they’ve held up their consumption by dipping into their savings. How long will they be able to continue doing that? How long will they want to continue doing that is probably the most important factor in whether the economy goes into recession this year.

I’m relatively unworried about a recession over the next year because consumer spending has continued to be very strong, and consumers have about $2.3 trillion of excess saving that they accumulated during the pandemic that could still spend out over the next couple of years.

GAZETTE: With high gas prices creating major political headwinds, President Biden said this week that lowering inflation was a top priority of his administration. He has already tapped the Strategic Petroleum Reserves. What more can he do?

FURMAN: The biggest tools are lowering the China tariffs; ending the moratorium on student loan interest payments would also help with inflation. The unemployment rate for college graduates is below 3 percent, so the economy should be in good enough shape to handle that. Beyond that, he doesn’t have a lot of tools. Inflation is primarily the responsibility of the Fed and it’s going to take time to bring down.

The most politically salient part of inflation is gasoline prices. The truth about gasoline prices is that part of inflation mostly is President Putin’s fault. And that part of inflation President Biden has helped with by releasing gasoline from the strategic petroleum reserves. The good news is that part of inflation is likely to level off or come down. We’ll probably have lower gasoline prices on Election Day than we have today. So, even if overall inflation is high, the part of inflation that people most notice should be getting better. There’s very little reason for them to keep rising the way they have. And historically, they tend to mean revert. The market is predicting that oil prices are going to come down over time if you look at futures prices.

Related

Related Articles

Leave a Reply

Your email address will not be published. Required fields are marked *

Back to top button