Recently released data indicates that the US economy added 678,000 jobs in February. That strong number would be great news if it occurred in an economy with stable prices. But considering the inflation rate is about to jump to double digit levels, the jobs report is signaling an overheated economy.
In January, 467,000 jobs were added and the numbers for the prior two months were revised upward. That should be great news because numbers that high indicate that the economy is growing much faster than previously thought.
Thursday’s CPI to Be Another Shock
The consensus view from economists seems to be that the economy is currently growing at less than a 3% rate. However, for that many jobs to be filled in two months, the economy must be growing much faster. The first official estimate for gross domestic product (GDP) growth in the first quarter won’t be available until the end of April.
Other data also seems to be pointing to faster growth. That’s good as long as we have growth with price stability. Unfortunately, we have the worst inflation in 40 years. And it is about to get even worse. The Consumer Price Index (CPI) for this month will be released on Thursday. It will show a very large increase. The high rate will continue for at least the next three or fours months. That means we could see double digit inflation by late spring.
While supply chain issues do have a slight impact on inflation, there are much more significant causes. Energy inflation and wage inflation are the main drivers on the cost side. The more impactful causes are on the demand side.
Huge increases in government deficit spending and the shockingly irresponsible expansionary monetary policy of the Federal Reserve are the causes for massive amounts of excess demand. Since the current administration will not reduce spending, it is up to the Fed to act very aggressively to stop a level of inflation that will be very problematic.
Next week, the Fed will hold their meeting. According to Chairman Jerome Powell, Federal Reserve governors are likely to raise interest rates by 25 basis points. The Board of Governors should give that action some very serious thought. With inflation this high and growth this strong, a much, much greater interest rate hike is warranted.
Remember the economy grew at 5.7% last year after declining by 3.5% in 2020. Today, the economy is producing more output than before the pandemic. There is absolutely no reason why the Fed is just ending its bond buying program this month and is keeping interest rates near zero. A 25 basis point rate hike will do little to reduce excess demand.
The Fed says for the past two years their top priority was to get the economy to a full employment level. Actually, it means it wants to make sure the economy provides enough jobs to create a full employment level. It reached that goal last Summer when the number of jobs openings exceeded the number of unemployed people.
Fed Could Have Slashed Inflation by Half
The Fed should have acted last Spring. Had it started back then to end the bond-buying program and gradually raise interest rates, the inflation rate today would be about half of what we are experiencing.
It is extremely critical that the Fed act very aggressively in their upcoming meeting, to strongly signal that price stability is now their top priority.
If it does not act aggressively, inflation will rise and then we will run into a very serious wage inflation problem, which leads to a worse yet, wage-price spiral. When organized labor seeks a contract this year, it will likely request a 9.5% wage increase, because it will note inflation is 7.5% and they need to stay ahead of inflation.
Then labor costs go up 9.5% for the employer who must then raise prices, making inflation worse. That’s the wage-price spiral.
The Fed’s failure to act aggressively will allow inflation to reach double-digit levels. When the Fed decides inflation is too high, then they will act aggressively. If Fed officials react too aggressively, too late, the interest rates hikes could be very large. The last time that happened in 1981, a recession followed.
Aggressive Fed action now is much preferred.
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