OPINION: For now, the Federal Reserve needs to follow the same principle that made it so successful in helping to prevent economic collapse in 2020: err on the side of doing too much, not too little.
CAMBRIDGE, Mass. —Recent price- and wage-growth data make it increasingly clear that the U.S. economy’s underlying inflation rate is at least 4% and more likely to be rising than falling. Although the Federal Reserve has acted forcefully in recent months to contain inflation, unfortunately it will need to stick to its plan of rapid interest-rate hikes FF00, until there is clear evidence that underlying inflation is slowing dramatically.
Inflation is accelerating Yet even if we exclude these volatile prices, “core inflation” is still running at an annualized rate of 4.8% and has been accelerating recently. Moreover, other measures that strip out volatile components of the price index—such as trimmed-mean, median, services, and cyclically sensitive inflation—have all increased, and some by even more than core inflation has.
Wage-price persistence At this stage, inflation is increasingly embedded in price growth, which is fueling wage growth that is in turn fueling price growth. This worrisome process—some call it a “wage-price spiral,” but I prefer “wage-price persistence”—is underwritten by short-term inflation expectations, which have risen markedly.
Higher prices lead to higher wages. This dynamic does not require labor unions or contracts with cost-of-living adjustments. Businesses that can sell their products for higher prices will want to hire more workers; but they will need to pay higher wages to attract new employees, because otherwise workers facing higher prices would look elsewhere.
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