A Tale of Two Landings
There has been a lot of talk about the Fed sticking a “soft landing”, in which inflation moderates in response to tight monetary policy but the economy avoids a recession.
With each data point showing the prowess of the U.S. economy — see last week’s Q4 GDP report, for example — hopes for a soft landing rose. Some economists even say it has already happened.
But not so fast. Even though inflation has come down, it’s still above the Fed’s 2% target rate. With the economy showing no signs of slowing down, concerns are brewing that inflation might never come down again, bringing up the question if there won’t be a landing at all.
A ‘No Landing’ Scenario
If growth remains strong, and inflation doesn’t come down all the way to 2%, what will happen to Federal Reserve policy?
A quick reminder: The Fed has a dual mandate to keep prices stable and employment as high as possible. At the start of the pandemic, the Fed slashed interest rates to support the economy. And as inflation started soaring, it raised rates to get the rate of price increases back under control. Now investors are awaiting the first interest rate cuts to usher in the next phase of central bank policy.
But the no landing scenario would complicate things. Would the Fed still cut interest rates if inflation isn’t all the way down at 2% and the economy remains strong?
The prospect of persistently high inflation, as well as the prospect of higher interest rates for longer, could be a major stressor on American households that have already been strained over the past years.
At tomorrow’s meeting, the Fed is expected to leave rates unchanged. But opinions diverge with respect to the following meeting in March. Stay tuned!
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