The Debate Continues
The Fed has sent the message that they believe that they can engineer a soft landing for the economy after fighting inflation since the beginning of 2022. Soft landing means slow landing and the acceptance of higher inflation than the Fed’s target 2% rate and high interest rates for a longer period of time than most of the stock market prognosticators prescribed earlier this year. They hang on to the Fed’s projection that they anticipate that the target 2% rate of inflation will not be attained until 2025. In other words, the Fed is willing to accept higher than target inflation for an extended period of time. Even though this may facilitate avoiding a recession, this also means that interest rates may stay elevated for an extended period of time along with a period of little or no economic growth. Realistically, there is little economic difference between little to no growth for a couple of months, and slightly negative growth over the same period of time. Remember the new normal of little to no growth during the Obama Administration.
The most recent (August 2023) CPI numbers came in hotter than anticipated and real wages began to drop again for the first time this year. Over the past two years the negative impact of severe inflation on real wages has logically led unions to demand wage increases, threaten strikes, and successfully force wage increases to correct for lower real wages. The recent UPS wage agreement (late July) with the Teamsters Union and the imminent United Auto Workers strike directed at Ford, GM and Stellantis will ultimately create wage inflation. The same issues have resulted in increased union demands in the airline industry. It is not likely, even if the Fed does not raise the federal funds rate a quarter point at the upcoming meeting, that a loosening cycle is imminent. As can be expected, after the Fed stops raising the target federal funds rate, a loosening cycle will have to wait until the Fed is comfortable with the rate of inflation. There are still enough inflationary headwinds in the economy that inflation may spike again, which will force the Fed to continue its tightening policy. This is particularly true if the cost of energy, especially oil and gas, increases significantly, which many energy producers have indicated is a strong possibility. The Fed, given their belief of a ‘soft landing’, must have come to the conclusion that there are sufficient constricting elements in the economy to counter the obvious inflationary headwinds, thereby allowing them to thread the needle of inflation, to reach reduce inflation to their target rate of 2% by sometime in 2025 and, with a quite a bit of luck, to not severely impact employment. What an unnecessary mess! The American economy may avoid the strict definition of recession on an aggregate level, but will have to endure a long period of meager growth. Who gets a ‘kick in the shorts’- as usual – small business and wage earners.
In support of a lenient inflationary posture by the Fed a recent Keynesian suggestion was made that the inflation target should be raised to 3%. Given the Biden Administration’s strict adherence to a socialist style fiscal policy of excess government spending, such an adjustment in the inflation target would be welcomed. From my viewpoint as an economist that believes in a prudent fiscal policy posture that is both demand and supply side friendly, I find it frustrating to watch the Fed having to fight inflation with an out-of-control administration spending like a “drunken sailor”, and with only demand side weapons to rebalance supply and demand and tame inflation.
The high lending rates that have resulted from the Fed’s tightening activities have severely hurt small businesses as well as middle- and low-income individuals and households. Funds for small business expansion have all but dried up, with any possible funding only available at prohibitively high interest rates. Unfortunately, this high interest rate environment can be expected to follow a similar extended time path as the Fed’s battle with inflation. With the small business sector being constrained by the high cost of borrowing (factoring as well as expansion) and the consumer being squeezed, Obama’s new normal of little to no growth may very well define the economy later this year and most, if not all, of 2024. When the voting public votes in a socialist dominated administration that promises a lot with a soft, comforting message, but only delivers misery, fiscal responsibility exits ‘stage left’ and government spending spikes. Note that unlike the borrowing needs of small business, irresponsible spending by a hard left socialist administration is not constrained by interest rates and deficits, and only serves to advance their political agenda.
Unfortunately, as the private sector becomes increasingly constrained by higher interest rates, and federal deficit spending becomes a destructive economic reality, the free market shrinks and our economy moves closer to the socialist model. As the socialist state edges out the free market and the rights of the individual, the ‘golden goose’ (i.e., the entrepreneur) is deprived of nourishment and the economic growth and prosperity that the ‘golden goose’ delivers are squandered. Keep in mind that out of control government spending not only increases the cost of all inputs for businesses of all sizes (especially small), it simultaneously reduces real income for all tax paying individuals. In effect, the push for raises by the unions and the necessity for employers to fight any form of cost increase is driven by the same source of inflation – excess government spending. For the United Auto Workers Union members not only has their income been decimated by agenda driven inflation, they face the elimination of their jobs almost entirely by the unscientific green agenda’s fictitious ‘climate emergency’ transition to electric vehicles. The auto makers, who are being pressured by the Biden Administration to rush the transition to electric vehicles, have to deal with that pressure in addition to a hostile EPA mandating inflationary pollution related guidelines, also have to deal with the Union that is demanding long term employment guarantees for jobs that may not exist. A critical question is whether or not middle- and lower-income voters who feel comfort in the soft messaging of the far left have suffered enough to recognize twisted terminology and fiscal reality. Will the voting public understand that fiscal responsibility and a scientifically honest approach to the hysterical ‘climate emergency’ on the federal level, coupled a truly free market, are good both for employees and employers who will have a ‘bigger pie’ to share if and when government is forced to be rational.