Takako Hatayama-Phillips
Before the COVID-19 pandemic, the Federal Reserve was struggling to get inflation up to its goal of 2%. All that changed with the virus, as the economy came to a near standstill. Months after the economy restarted, inflation climbed as demand surged amid parts shortages and production limitations. In addition, commodities prices jumped.
To bring down demand, and with it inflation, the Fed increased the cost of borrowing, raising its benchmark interest rate by 420 basis points by the end of 2022, and an additional 25 bps in February. Inflation has subsided from its peak of almost 7% in June to 5.4% in January of 2023, but it’s still far above the 2% goal.
“The disinflation momentum we need is far from certain,” said Mary Daly, president of the Federal Reserve Bank of San Francisco. Several factors will be key in determining what kind of economic landscape the central bank will be navigating in the months ahead. In any case, it’s not done with its tightening.
“In order to put this episode of high inflation behind us, further policy tightening, maintained for a longer time, will likely be necessary,” she said Saturday in a prepared remarks at Princeton University economic symposium. She didn’t specify how much further she thinks the policy rate will go.
Four factors that could offset the deflationary trends of the past are — the decline in global price competition; ongoing domestic labor shortage; investments in renewable energy and energy-efficient technologies; and a change in inflation expectations.
If “prepandemic trends reemerge as the dominant structural forces, then our efforts to bring inflation down will be reinforced by natural features of the economy,” Daly said. “But if the old dynamics are eclipsed by other, newer influences and the pressures on inflation start pushing upward instead of downward, then policy will likely need to do more.”
As for what’s next, she said, “We will work on the economy we have, and prepare for the economy to come. That’s what this moment demands.”
Q&A will follow, check back for updates.
On Friday, Richmond Fed President Tom Barkin emphasized it will take time to get inflation to the Fed’s 2% objective.
