The danger of the US economy reverting to a 1970s-style stagflation scenario is the highest in decades, according to former President Barack Obama’s top economic adviser.
Jason Furman, a Harvard University professor who previously served as chairman of the Council of Economic Advisers, warned that an aggressive Federal Reserve, rising interest rates and persistently high inflation raised the possibility of a period stagnant economic growth and high consumer prices.
“It’s a real risk,” Furman said during an interview with FOX Business. “It’s the biggest risk of stagflation we’ve had in a long time. But it’s not a guarantee that the economy will go into recession. Consumers still have a lot of money. They’re still spending. So there’s still hope for the U.S. economy.”
Stagflation is the combination of slow economic growth and high inflation, characterized by soaring consumer prices and high unemployment. The phenomenon ravaged the American economy in the 1970s and early 1980s, when soaring oil prices, rising unemployment and accommodative monetary policy pushed the consumer price index to 14.8% in 1980, forcing Fed policymakers to raise interest rates to nearly 20% that year. .
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Inflation accelerated again in May, the government reported earlier this month, with the consumer price index, up 8.6%, well above economists’ expectations. It marks the fastest pace of inflation since December 1981, underscoring how strong inflationary pressures in the economy still are.
Searing inflation has created severe financial pressures for most US households, who are forced to pay more for daily necessities like food, gas and rent. The burden is borne disproportionately by low-income Americans, whose already-stretched paychecks are hit hard by price swings.
The stock market has also suffered amid rising inflation and rising interest rates with the S&P 500 down 20% this year.
As a result, the Federal Reserve is moving at the fastest pace in decades to rein in consumer demand and bring inflation closer to its 2% target. Just last week, policymakers voted to raise interest rates by 75 basis points for the first time since 1994. The move puts the benchmark federal funds rate between 1.50% and 1.75 %, the highest since the start of the pandemic two years ago.
But Fed policies aimed at stifling consumer demand and controlling inflation are expected to slow the economy, with a growing number of Wall Street firms predict recession in the next two years. Goldman Sachs, Bank of America and Deutsche Bank have all raised the odds of a slowdown in 2022 or 2023, and Fed Chairman Jerome Powell has admitted there is a real possibility of a recession.
“It’s definitely a possibility,” Powell told lawmakers on Wednesday. “We’re not trying to cause and don’t think we should cause a recession, but we think it’s absolutely essential to restore price stability, really for the benefit of the labor market as much as anything else. “
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Rising interest rates tend to create higher rates on consumer and business loans, which slows down the economy by forcing employers to cut spending. Mortgage rates are already approaching 6%, the highest since 2008, while some credit card issuers have raised rates to 20%.
Furman said he expects central bankers to end the year with interest rates near 4% as they race to catch up with inflation. But consumers shouldn’t expect to see prices drop right away, he said.
“It’s going to take some time for inflation to come down,” he said. “I think inflation will be high all year, and maybe some things will start to go down. Maybe car prices will go down. At some point, gas prices will go down “We’ve seen oil prices start to come down. Gasoline. But if you’re asking about the average prices as a whole, it could take a while.”
Creeping inflation has become a major political handicap for President Biden ahead of November’s midterm elections, in which Democrats are expected to lose their already slim majorities. Polls show that Americans see inflation as the biggest problem facing the country. And many households blame Biden for the price spikes.
In response, the president raised the possibility of temporarily suspending the 18.4 cents per gallon gasoline tax, a move that would require congressional action. It’s intended to help consumers cope with higher prices at the pump amid record fuel cost increases, but Furman slammed the proposal as a “trick” that won’t do much to fill the pockets of households and will instead offer a major windfall to oil companies.
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“To rein in inflation is largely the job of the Federal Reserve,” Furman said. He suggested that the White House could instead explore more modest strategies such as reducing the federal deficit, lifting tariffs, increasing the efficiency of the shipping industry or making it easier to obtain a license to be a truck driver to mitigate supply chain disruptions.
“A lot of little policies that you can pursue,” he said. “But the big tools, those are all in the hands of the Federal Reserve.”
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