The Fed might crush millions of jobs because it thinks the alternative is worse. What if it’s wrong?
In a phone interview, Sahm told me the Fed has “no data that says inflation expectations are de-anchoring, and yet they are going to tank the global economy.”
With the global economy tottering on the edge of recession, an ongoing war against Ukraine , and a declining yet latent pandemic, the stakes over how fast the Fed moves are high. If doves like Sahm are right, then it might make sense for the Fed to pause its rate-hiking campaign and see what happens to inflation over the next few months. But right now the leadership of the Fed thinks she’s wrong.
The person who finally ended this wage-price spiral was Paul Volcker, who became the Fed chair in 1979. Volcker made clear that fighting inflation was his top priority and that he would push short-term interest rates as high as necessary to get inflation under control. They went very high indeed, reaching a peak of more than 19 percent in 1981. The result was a pair of severe recessions that started in 1980 and 1981, respectively. Unemployment peaked at nearly 11 percent in 1982.
Even doves acknowledge that unanchored expectations would be catastrophic. Sahm told me, “An inflationary mentality, if it were to set in, would make it much harder to bring inflation down.”Most economists across the political spectrum also agree that inflation expectations have not become unanchored—at least not yet. Most consumers and financial market participants expect future inflation to be roughly in line with the Fed’s 2 percent target over the next few years.
The other is a market forecast called the five-year breakeven inflation rate. This is based on the price of Treasury Inflation-Protected Securities, a special kind of government bond whose principal is automatically adjusted for inflation. Comparing the price of ordinary five-year Treasury bonds with five-year TIPS reveals how much inflation bond market participants expect over the next five years.
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