Flummoxed Fed: Jerome Powell Considers Faster Interest Rate Hikes, To Tame Insidious Inflation In US

There was a time when people thought that inflation in America has been relegated to the vestiges of history. It is something that Econ101 students will study and talk about about in seminar rooms whilst discussing 'US economic history and the policies that impacted it'.

Alas, reality kicked in. Yesterday, US Fed Chair Jerome Powell, whilst speaking at IMF's debate on the global economy, indicated that the Fed is considering raising interest rates rapidly to tame inflation.

He said that a larger than usual increase of half a percentage point is on the table. This indication comes at a time when the Fed has faced some scrutiny for initially fumbling in its response to inflation.

“It is appropriate, in my view, to be moving a little more quickly”, he said. The expectation is that raising borrowing costs will cool down demand.

The Fed is scheduled to meet on May 3rd and 4th. US is witnessing inflation that it hasn't in decades. As you'd remember, America's CPI spiked to 8.5 per cent, which hasn't happened since 1981. That is four decades.

The Fed had initially hoped that inflation would be transitory. The persistence of inflation and the Fed's apparent misreading of it, has left the Fed flummoxed. Officials who long advocated lower interest rates are now questioning whether Fed's intention of raising the interest rates by seven quarter points will be enough. Some suggest that nine would be appropriate.

Powell will be looking to raise interest rates more aggressively at the outset, to catch up with the inflationary pressures. "There’s something in the idea of front-end loading whatever accommodation one thinks is appropriate,” he said.

Interest rates are less than 0.5 per cent as of now, it is likely that by the end of the year it will be at 3 per cent. That's a level it hasn't touched since the 2008 financial crisis.

“In the case of the United States, we have had an expectation that inflation would peak around this time and then would come down, these expectations have been disappointed in the past.” said Powell.

The Fed's primary dilemma as it sets afoot on the road to control inflation, is this - will it succeed in controlling inflation without tipping the US economy into a recession, will it succeed in, a soft landing, so to say.

"That's our goal...I don’t think you’ll hear anyone at the Fed say that that’s going to be straightforward or easy. It’s going to be very challenging. We’re going to do our very best to accomplish that," said Powell.

The wide scale pain of inflation in America hampers the already damp chances of Democrats winning the midterms. Nearly a fifth of Americans believe that inflation is country's biggest problem. Democrat spin doctors in DC are trying to blame it on the man who resides in Kremlin, Vladimir Putin.

Although most people intuitively know that Putin doesn't bear the responsibly for it, Democrats are hoping that Americans will cut President Biden some slack as the war in Europe did exacerbate an already problematic situation.

A New York Times report quotes numerous Americans who speak about how inflation is impacting them personally.

For some, going to the grocery shop and observing the cost of your child's favourite food go up, is just annoying. It doesn't mean they stop feeding their child her/his favourite food. This is an experience that some Americans share, they are the ones who earn more.

On the other hand, the average Americans, they live pay check to pay check, so when inflation spikes, they are the ones who suffer the most, simply because they have less of a wriggle room.

"It's bad when you have to ask yourself - do I get food or pay a bill", says one person in the report. "I am eating expired groceries", says another. Some can barely afford to drive to work and pay their bills at the same time.

In the past six decades, the Fed has only thrice managed to slow down America's economy sufficiently without being confronted with the unintended consequence of an economic downturn.

An economic contraction in America impacts not just America but the whole global economy. Poor countries are in particular risk. Sharp interest rate hikes will tempt away capital and even possibly weaken their exchange rates at a time when demand for their exports might not be high. These countries will be watching the Fed attempting to channel its inner Volcker, rather nervously.

Inflation has geopolitical implications too, in obvious ways and not so obvious ways. It allows some nations in this chessboard to move more freely and it restricts the ability of other nations, ensuring they move less freely. Pain at the grocery store for everyday Americans has the impact of making advocates of trade war and decoupling with China, quite reticent. It is however not a bad time for advocates of G2.

China's almost dogmatic dedication to zero-coved policy, is interesting in this context. More supply chain disruptions is the last thing a nation struggling to tame inflation needs.