With prices for gas and other necessities of life soaring, there’s no doubt inflation is bad. But could the Federal Reserve’s cure turn out to be worse than the disease?
As the Fed’s campaign to fight inflation intensifies with the biggest interest rate hikes since 1994, skeptics who include lawmakers and economists are questioning whether getting price increases under control this way is worth a potential cost of millions of lost jobs—and whether it will even work.
Some dissenters believe the Fed’s approach, which is to intentionally slow the economy, is misguided and risks snuffing out one of the economy’s few bright spots—the great job market, where there are nearly two open positions for every unemployed job seeker.
As Massachusetts senator Elizabeth Warren put it, questioning Fed chair Jerome Powell at a hearing in June, “You know what’s worse than high inflation and low unemployment? It’s high inflation and a recession with millions of people out of work.”
Key Takeaways
- The Federal Reserve is combating soaring inflation by raising its benchmark interest rate, increasing borrowing costs and discouraging spending.
- The interest rate hikes come with a major downside: Slowing the economy harms the job market and could cause a recession.
- The last time we saw inflation like this, in the early 1980s, the Fed hiked rates so much that it caused a recession and massive job losses.
- Some skeptics think raising rates is the wrong approach and could hurt workers while leaving the source of today’s inflation—supply chain problems—unchanged.
Why the Fed Is Raising Rates
The U.S. central bank, the Federal Reserve, is in the midst of a series of interest-rate hikes that are designed to cool today’s rampant price increases by raising borrowing costs for all kinds of loans, including credit cards, car loans, and even, indirectly, mortgages. The Fed’s benchmark interest rate (the federal funds rate) had been held down to near-zero during the COVID-19 pandemic to stimulate the economy, and jacking it up is meant to do the opposite.
The thinking is that prices are rapidly rising because of an imbalance in supply and demand: Businesses just can’t deliver all the goods and services their customers want, so prices rise. The Fed can’t increase the supply of anything, but by reducing households’ and businesses’ buying power, it will stifle some of the demand, allowing balance to return—and inflation to fall.
Ordinary people’s finances are collateral damage in this battle, said James K. Galbraith, a professor of economics at the University of Texas. “People are being squeezed on their energy bill,” Galbraith said. “And now the Fed says, ‘Oh gee, we’ll come along and help by squeezing you on your credit cards and on your mortgages and on your car loans and on everything else that is tied to the interest rate that we control.’ ”
A Soft-Ish Landing
Other economists think the Fed’s strategy is a possibly painful but necessary corrective to an overheating economy, and that slower economic growth for a while is worth it to vanquish inflation. Officials at the Fed are optimistic they can tap the brakes on the economy without bringing it to a screeching halt and causing a recession.
Fed officials say their goal is not to send the economy crashing to the bottom of a cliff, but rather to bring it in for a “soft” or “soft-ish” landing in which price increases slow down to an acceptable level without the economy going into a recession. But the Fed’s own projections predict that workers will pay a price for lowering inflation, with the unemployment rate rising to 4.1% by 2024 from its current, near-historic-low level of 3.6%. That means some 822,000 more jobless people than there are now.
“We don’t seek to put people out of work,” Fed Chair Jerome Powell said at a press conference last month. “Of course, we never think too many people are working and fewer people need to have jobs. But we also think that you really cannot have the kind of labor market we want without price stability.”
In the long run, the Fed’s dual goals of price stability (low inflation) and high employment should go hand in hand. When prices are stable, it’s easier for businesses to plan, invest, and hire, which helps the economy grow and is good for the job market. But controlling high inflation by raising interest rates—even by comparatively small increments—could mean sacrificing jobs in the short run.
Eroding Workers’ Power
Taking away demand for goods and services ultimately means that even if there aren’t mass layoffs, the power of workers in the labor market to negotiate better pay and working c
