A Plan to Combat Inflation

News | Seth Rothbaum | Mar 21th, 2022.

Source: US Bureau of Labor Statistics, Federal Reserve

With inflation running rampant, Federal Reserve Chair Jerome Powell has considered drastically increasing federal interest rates. As a result of the COVID-19 epidemic, global supply chains became seized up. Factories in parts of the world where most of the world’s manufacturing occurs, such as China, South Korea, Vietnam, and Germany, were forced to decrease production or shut down due to the spread of coronavirus cases. In response, shipping companies also cut their schedules in anticipation of a drop in demand for moving goods around the world. Instead, the opposite occurred, and when the demand for purchases rose, particularly those online, and supplies went down, costs rose. To deal with these rising costs, companies increased the prices of the goods for the consumers, resulting in increased inflation. Without matching wage growth, the currency constantly declined in purchasing power. 

Each year, the Fed sets a goal for the year’s overall inflation. For 2022, they have decided to pursue a 2.0% inflation rate. Due to the problems described above, expected inflation has increased to 3-4.0%, much higher than the Fed’s target. The main ways the Fed controls inflation are by increasing interest rates, raising wage rates, and instituting price controls. All of these slow economic growth because they create a lack of readily available money. Additionally, if the Fed is forced to raise interest rates too quickly, it can even cause a recession and result in higher unemployment. This year, the Fed has chosen to raise interest rates by 1%, using a 0.25% increase each quarter, to reach their target inflation rate. The rising interest rates would cause both businesses and consumers to cut back on spending. This will cause economic growth to fall as well as the profits of businesses to drop. While the rising interest rates will most certainly decrease economic prosperity, it remains to be seen if inflation will be reduced sufficiently due to these measures.