Inflation's cure may be worse than the disease

"If they really wanted to get inflation down in the 2% to 3% range on a sustained basis, they might need a Fed funds rate at 6% or higher."

Kenneth Rogoff, Harvard economist

Hello Downriver,

You may know this already, but if you didn't, please don't shoot the piano player: The only way to deal with today's inflationary times is for you to exhaust your savings and then lose your job.

Yep, pretty ugly, right?

But you didn't hear this from me. The Federal Reserve Board has been saying it for most of this year.

How?

By continuing to raise the federal funds rate — the interest rate at which banks borrow and lend to one another.

Most recently — like last Friday recently — the "Fed" raised this benchmark rate another 75 basis points.

Or, in English, three-quarters of a percent — to 4%.

For those with great memories, it was only on March 17 — six months ago and four days after we switched to Daylight Saving Time — that the rate was first increased from essentially 0%.

Starting on that date, though, the Fed began steadily increasing the rate —by a series of giant 75 basis point jumps — to its new level.

And what does the future hold?

According to the Fed's own projections, we could be looking at a peak rate of 4.5%-4.75% sometime next year.

But don't worry, it will come back down once you've exhausted those savings and ended up on unemployment.

Because those are things the Fed doesn't care one whit about.

Rather, the Fed's mandate — as defined by Congress in 1977 — is to "promote effectively the goals of maximum employment (and) stable prices."

The problem, as we've learned, however, is that those two goals are incompatible.

For one simple reason: The law of supply and demand — which lies at the core of inflation.

Too many dollars chasing too few goods.

The result, prices go up.

So, the Fed concentrates on prices, hence the rate hikes.

An obvious solution, of course, is to increase supply to keep prices in check, but what company worth its salt doesn't want to make a killing by cornering the market in some good or service?

Keep things rare and hard to get and you can name your price; as a result, there's little incentive to flood the market if you don't have to.

The normal process is for supply to match demand and let both sides rise naturally.

But add a pandemic and related supply chain issues into the mix and you have the perfect storm for maximum profits thanks to dwindling supplies.

(Just look how car dealers went way over sticker prices when inventories dropped due to chip shortages.)

So, since fixing the supply side of the supply-and-demand equation is out, the Fed only has the demand side left to fix.

And it does that by reducing demand.

How?

By reducing the amount of money chasing goods and services — and one way to do that is to drive up costs even more by raising rates on borrowing.

Oops, there goes that variable rate mortgage into the stratosphere; oops, there goes your credit card interest rate into usury realms.

So, forget about buying new things; the cost of simply paying for what you have has gone up — exhausting those savings you had banked.

Next, of course, the associated drop in consumer spending results in businesses laying off workers because nothing is being sold.

Less workers means less money to spend — beyond bare essentials.

And, voila, the Fed gets what it wanted all along.

But don't believe me — believe one of the Fed's governors, Esther George, president of the Federal Reserve Bank of Kansas City.

In a recent interview on National Public Radio, she said the following:

"We see today that there is a bit of a savings buffer still sitting for households, that may allow them to continue to spend in a way that keeps demand strong.

"That," she said, "suggests we may have to keep (increasing rates) for a while."

Yep, George said out loud what everyone else whispers behind closed doors: The only way to beat inflation is from attacking the demand side — and that means beating everyday Janes and Joes over the head.

First, by forcing us to tap our savings to pay higher bills and then by losing jobs to polish off the plan.

As one outlet put it: "In other words, the problem today as seen by the Fed is that regular Americans have too much money. And the Fed is going to keep bludgeoning the economy until this is no longer the case."

Unfortunately — for the Fed, anyway — things are still going in the wrong direction: Last Friday, the U.S. Labor Department reported a larger-than-expected job growth in October — and had to revise upward its September numbers, to 315,000, up from 263,000 as previously reported.

Not good, says the Fed, not good.

We need layoffs!

Like I said, the long-term solution for much of our economic woes would come simply by balancing the supply-and-demand equation.

But that never happens in the real world.

Wage increases or supply shortages tilt the teeter-totter one way, while interest rate hikes and recessions tilt it the other.

And make no mistake, the Fed is quietly expecting (hoping?) for a soft recession to hit sometime soon, to take the inflationary pressure off the economy.

The problem with such thinking is quite obvious: These numbers represent people, not things.

For every percentage increase in prices, someone struggles a little bit more to make ends meet.

For every percentage increase in rates, someone finds it harder to pay bills each month.

For every cut in payroll, a real person loses hours or an entire job that not only pays for things, but often defines them.

The last time we were in a real bind in 1979 ("last one to leave Michigan, turn out the lights"), then-Fed Chair Paul Volker famously (infamously?) said this about taming the recession: "The standard of living of the average American has to decline."

The truth is that during the pandemic — and several years of low inflation — many Americans improved their lot in life; according to one report, going into 2022, "poorer Americans now enjoy a higher net worth than they've ever had in U.S. history. This gives them a little unaccustomed leverage, some wiggle room, the chance to quit their job for a better one."

But as Fed governor George put it, that simply means they "can continue to spend in a way that keeps demand strong."

Which means inflation will continue to be a problem until demand is brought back down.

Which is what the Fed is aiming to do through higher interest rates — and hoping that you'll exhaust your savings and stop spending.

And maybe even lose your job.

What a lousy solution.

Craig Farrand is a former managing editor of The News-Herald Newspapers. He can be reached at [email protected].