(AP) — Federal Reserve Chair Jerome Powell has pledged to do whatever it takes to curb inflation, now raging at a four-decade high and defying the Fed’s efforts so far to tame it.
Increasingly, it seems, doing so might require the one painful thing the Fed has sought to avoid: A recession.
A worse-than-expected inflation report for May — consumer prices rocketed up 8.6% from a year earlier, the biggest jump since 1981 — helped spur the Fed to raise its benchmark interest rate by three-quarters of a point Wednesday.
Not since 1994 has the central bank raised its key rate by that much all at once. And until Friday’s nasty inflation report, traders and economists had expected a rate hike of just half a percentage point Wednesday. What’s more, several more hikes are coming.
The “soft landing” the Fed has hoped to achieve — slowing inflation to its 2% goal without derailing the economy — is becoming both trickier and riskier than Powell had bargained for. Each rate hike means higher borrowing costs for consumers and businesses. And each time would-be borrowers find loan rates prohibitively expensive, the resulting drop in spending weakens confidence, job growth, and overall economic vigor.
“There’s a path for us to get there,” Powell said Wednesday, referring to a soft landing. “It’s not getting easier. It’s getting more challenging”
It was always going to be tough: The Fed hasn’t managed to engineer a soft landing since the mid-1990s. And Powell’s Fed, which was slow to recognize the depth of the inflation threat, is now having to play catch-up with an aggressive series of rate increases.
“They are telling you: ‘We will do whatever it takes to bring inflation to 2%,’ ” said Simona Mocuta, chief economist at State Street Global Advisors. “I hope the (inflation) data won’t require them to do whatever they’re willing to do. There will be a cost.”
In Mocuta’s view, the risk of a recession is now probably 50-50.
“It’s not like there’s no way you can avoid it,” she said. “But it’s going to be hard to avoid it.’’
The Fed itself acknowledges that higher rates will inflict some damage, though it doesn’t foresee a recession: On Wednesday, the Fed predicted that the economy will grow about 1.7% this year, a sharp downgrade from the 2.8% growth it had forecast in March. And it expects unemployment to average a still-low 3.7% at year’s end.
But speaking at a news conference Wednesday, Powell rejected any notion that the Fed must inevitably cause a recession at the price of taming inflation.
“We’re not trying to induce a recession,” he said. “Let’s be clear about that.”
President Joe Biden told The Associated Press on Thursday that he also believes a recession in the United States is not inevitable. The U.S. is in a better position than any other nation to tame inflation, he said.
Economic history suggests, though, that aggressive, growth-killing rate hikes could be necessary to finally control inflation. And typically, that is a prescription for a recession.
Indeed, since 1955 every time inflation ran hotter than 4% and unemployment fell below 5%, the economy has tumbled into recession within two years, according to a paper published this year by former Treasury Secretary Lawrence Summers and his Harvard University colleague Alex Domash. The U.S. jobless rate is now 3.6%, and inflation has topped 8% every month since March.
Inflation in the United States, which had been under control since the early 1980s, resurged with a vengeance just over a year ago, largely a consequence of the economy’s unexpectedly robust recovery from the pandemic recession. The rebound caught businesses by surprise and led to shortages, delayed shipments — and higher prices.
President Joe Biden’s $1.9 trillion stimulus program added heat in March 2021 to an economy that was already warmed up. So did the Fed’s decision to continue the easy-money policies — keeping short-term rates at zero and pumping money into the economy by buying bonds — it had adopted two years ago to guide the economy through the pandemic.
Only three months ago did the Fed start raising rates. By May, Powell was promising to keep raising rates until the Fed sees “clear and convincing evidence that inflation is coming down.”
Some of the factors that drove the economy’s recovery have meanwhile vanished. Federal relief payments are long gone. Americans’ savings, swelled by government stimulus checks, are back below pre-pandemic levels.
And inflation itself has been devouring Americans’ purchasing power, leaving them less to spend in shops and online: After adjusting for higher prices, average hourly wages fell 3% last month from a year earlier, the 14th straight drop. On Wednesday, the government reported that retail sales fell 0.3% in May, the first drop since December.
Now, rising rates will squeeze the economy even harder. Buyers of homes and autos will absorb higher borrowing costs, and some will delay or scale back their purchases. Businesses will pay more to borrow, too.
And there’s another byproduct of Fed rate hikes: The dollar will likely rise as investors buy U.S. Treasurys to capitalize on higher yields. A rising dollar hurts U.S. companies and the economy by making American products costlier and harder to sell overseas. On the other hand, it makes imports cheaper in the United States, thereby helping ease some inflationary pressures.
The U.S. economy still has strength. The job market is booming. Employers have added an average of 545,000 jobs a month over the past year. Unemployment is near a 50-year low. And there are now roughly two job openings for every jobless American.
Families aren’t buried in debts as they were before the Great Recession of 2007-2009. Nor have banks and other lenders piled up risky loans as they had back then.
Still, Robert Tipp, chief investment strategist at PGIM Fixed Income, said that recession risks are rising, and not only because of the Fed’s rate hikes. The growing fear is that inflation is so intractable that it might be conquered only through aggressive rate hikes that imperil the economy.
“The risk is up,” Tipp said, “because the inflation numbers came in so high, so strong.”
All of which makes the Fed’s inflation-taming, recession-avoiding act even more treacherous.
“It’s going to be a tightrope walk,” said Thomas Garretson, senior portfolio strategist at RBC Wealth Management. “It’s not going to be easy.’’
President Joe Biden said Thursday the American people are “really, really down” after a tumultuous two years with the coronavirus pandemic, volatility in the economy and now surging gasoline prices that are slamming family budgets. But he stressed that a recession was “not inevitable” and held out hope of giving the country a greater sense of confidence.
Speaking to The Associated Press in a 30-minute Oval Office interview, the president emphasized the battered economy that he inherited and the lingering psychological scars caused by a pandemic that disrupted people’s sense of identity. He bristled at claims by Republican lawmakers that last year’s COVID-19 aid plan was fully to blame for inflation reaching a 40-year high, calling that argument “bizarre.”
As for the overall American mindset, Biden said, “People are really, really down.”
“Their need for mental health in America has skyrocketed because people have seen everything upset,” Biden said. “Everything they’ve counted on upset. But most of it’s the consequence of what happened, what happened as a consequence of the COVID crisis.”
That pessimism has carried over into the economy as record prices at the pump and persistent inflation have jeopardized Democrats’ ability to hold on to the House and Senate in the midterm elections. Biden addressed the warnings by economists that fighting inflation could tip the United States into recession.
“First of all, it’s not inevitable,” he said. “Secondly, we’re in a stronger position than any nation in the world to overcome this inflation.”
As for the causes of inflation, Biden flashed some defensiveness on that count. “If it’s my fault, why is it the case in every other major industrial country in the world that inflation is higher? You ask yourself that? I’m not being a wise guy,” he said.
The president’s statement appeared to be about inflation rising worldwide, not necessarily whether countries had higher rates than the U.S. Annual inflation in Japan, for example, has risen in recent months though it’s still at a yearly rate of 2.4%, according to the Organization for Economic Co-operation and Development.
The president said he saw the reason for optimism with the 3.6% unemployment rate and America’s relative strength in the world.
But restoring confidence so far has eluded Biden, whose approval ratings have been in steady decline as he has lost support among Democrats and has little evidence to show that he could restore a sense of bipartisan normalcy to Washington.
Biden’s Oval Office is filled with the portraits of presidents who faced crises that have imperiled the country, and the president acknowledged there were parallels to his own situation. A picture of Franklin Delano Roosevelt hangs over his fireplace, a place of prominence because the historian Jon Meacham told Biden that no president had come into office with the economy in such dire circumstances. There is also a painting of Abraham Lincoln, who became president with a nation brutally divided and on the verge of the Civil War.
Yet Biden’s remedy is not that different from the diagnosis made by former President Jimmy Carter in 1979 when the U.S. economy was crippled by stagflation. Carter said then the U.S. was suffering from a “crisis of confidence” and “the erosion of our confidence in the future is threatening to destroy the social and the political fabric of America.”
The president said he wants to endow the U.S. with more verve, fortitude, and courage.
“Be confident,” Biden said. “Because I am confident. We’re better positioned than any country in the world to own the second quarter of the 21st century.”
Biden’s bleak assessment of the national psyche comes as voters have soured on his job performance and the direction of the country. Only 39% of U.S. adults approve of Biden’s performance as president, according to a May poll from The Associated Press-NORC Center for Public Research, dipping from already negative ratings a month earlier.
Overall, only about 2 in 10 adults said the U.S. is heading in the right direction or that the economy is good, both down from about 3 in 10 in April. Those drops were concentrated among Democrats, with just 33% within the president’s party saying the country is headed in the right direction.
Biden said Republican social policies were contributing to public anxieties. He suggested GOP lawmakers could face consequences in the midterms if the Supreme Court overturns Roe v. Wade, possibly removing national protections for abortion access. Voters will consider the “failure of this Republican Party to be willing” to respond to “the basic social concerns of the country,” the president said.
The president outlined some of the hard choices he has faced, saying the U.S. needed to stand up to Russian President Vladimir Putin for invading Ukraine in February even though tough sanctions imposed as a result of that war have caused gas prices to surge, creating political risk for Biden in an election year. He called on oil companies to think of the world’s short-term needs and increase production.
Asked why he ordered the financial penalties against Moscow that have disrupted food and energy markets globally, Biden said he made his calculation as commander in chief rather than as a politician thinking about elections.
“I’m the president of the United States,” he said. “It’s not about my political survival. It’s about what’s best for the country. No kidding. No kidding. So what happens? What happens if the strongest power, NATO, the organizational structure we put together, walked away from Russian aggression?”
Biden spun out the possibility of chaos in Europe if an unimpeded Russia kept moving deeper into the continent, China was emboldened to take over Taiwan and North Korea grew even more aggressive with its nuclear weapon ambitions.
Biden renewed his contention that major oil companies have benefited from higher prices without increasing production as much as they should. He said the companies needed to think of the world in the short term, not just their investors.
“Don’t just reward yourself,” he said.
Consumer prices have jumped 8.6% over the past year, the steepest rise in more than 40 years. Republican lawmakers have said that Biden’s $1.9 trillion coronavirus relief package from last year kick-started a spiral of price increases.
The president said there was “zero evidence” for that claim, noting that other countries have endured higher prices as economies reopened and people became vaccinated. Still, Biden acknowledged Treasury Secretary Janet Yellen’s contention that the spending had a limited inflationary effect.
“You could argue whether it had a marginal, a minor impact on inflation,” he said. “I don’t think it did. And most economists do not think it did. But the idea that it caused inflation is bizarre.”
Still, high inflation has created a conundrum for Biden. He prioritized bringing back millions of jobs and has seen the unemployment rate return to close to pre-pandemic levels. The Federal Reserve on Wednesday increased its benchmark interest rate, in hopes of slowing the economy and pulling inflation down to its target rate of 2%.
The tightening of Fed policy has caused financial markets to slump and led many economists to warn of a potential recession next year. The president encouraged Americans to stay patient.
“They shouldn’t believe a warning,” he said. “They should just say: ‘Let’s see. Let’s see which is correct.’”
The president is still trying to steer his domestic agenda through Congress, after an earlier iteration, last year failed to clear a 50-50 Senate. Biden said, “I believe I have the votes” to lower prescription drug prices, reduce families’ utility bills with tax incentives and place a 15% minimum tax on corporations. He said his plans would lower expenses for many Americans, though the measure would be scaled back from earlier intentions for an expanded child tax credit, universal pre-kindergarten, and other programs.
“I’m going to be able to get, God willing, the ability to pay for prescription drugs,” Biden said. “There’s more than one way to bring down the cost for working folks.”
And then, in acknowledgment of the political restraints he faces, Biden added, “I can’t get it all done.”
Asian stock markets were mostly lower Friday after Wall Street fell on fears that interest rate hikes will depress global economic activity.
Tokyo, Seoul, and Sydney fell. Shanghai and Hong Kong advanced. Oil prices edged lower but stayed above $115 per barrel.
Wall Street’s benchmark S&P 500 index tumbled 3.3% after Britain’s central bank followed the Federal Reserve in raising its key interest rate to cool surging price rises. Central banks in Switzerland and Taiwan also raised rates.
Investors worry the moves to control inflation that is running at four-decade highs might tip the U.S. and other major economies into recession.
“Pain is being inflicted almost everywhere and sharing doesn’t make it better in any way,” said Tan Boon Heng of Mizuho Bank in a report.
Markets were not assuaged by comments by President Joe Biden to The Associated Press on Thursday that he saw reasons for optimism about the economy.
A recession is “not inevitable,” Biden said.
The Shanghai Composite Index advanced less than 0.1% to 3,287.88 while the Nikkei 225 in Tokyo fell 2.3% to 25,822.56. The Hang Seng in Hong Kong gained 0.6% to 20,983.41.
The Kospi in Seoul retreated 1.2% to 2,420.34 and Sydney’s S&P-ASX 200 tumbled 2.1% to 6,450.30.
New Zealand, Bangkok, and Jakarta declined while Singapore gained.
On Wall Street, the S&P 500 retreated to 3,666.77 for its sixth decline in the past seven trading sessions. All but 3% of stocks in the index fell.
The benchmark gave up its 1.5% gain of the previous day after the Fed announced a rate hike of 0.75 percentage points, three times is the usual margin. Chair Jerome Powell said Wednesday the Fed is “not trying to induce a recession now.”
The S&P 500 is 23.6% below its Jan. 3 record. That erases gains from 2021, one of Wall Street’s best years this century.
The Dow Jones Industrial Average lost 2.4% to 3,666.77. The Nasdaq dropped 4.1% to 10,646.10.
Japan’s central bank wrapped up a two-day meeting Friday with no major changes to its ultra-low interest rate policy, imposed years ago to try to fend off deflation, or sinking prices. So far, it has avoided raising rates.
Along with increasing interest rates, the Fed is allowing some of the trillions of dollars of bonds it purchased through the pandemic to roll off its balance sheet. That should put upward pressure on longer-term interest rates.
Fewer American workers filed for unemployment benefits last week than a week before, a report showed on Thursday. But more signs of trouble have been emerging.
In energy markets, benchmark U.S. oil lost 57 cents to $117.02 per barrel in electronic trading on the New York Mercantile Exchange. The contract rose $2.27 on Thursday to $117.58. Brent crude, the price basis for international trading, sank 47 cents to $119.34 per barrel in London. It gained $1.30 the previous session to $119.81.
The dollar gained to 133.40 yen from Thursday’s 132.00 yen. The euro declined to $1.0536 from $1.0573.