Fed judges its inflation response
Some officials concede they were too slow to respond
Some Federal Reserve officials have begun to acknowledge that they were too slow to respond to rapid inflation last year, a delay that is forcing them to constrain the economy more abruptly now — and one that could hold lessons for the policy path ahead.
Inflation began to accelerate last spring, but Fed policymakers and most private-sector forecasters initially thought price gains would quickly fade. It became clear in early fall that fast inflation was proving to be more lasting — but the Fed pivoted toward rapidly removing policy support only in late November and did not raise rates until March.
Several current and former Fed officials have suggested in recent days that, in hindsight, the central bank should have reacted more quickly and forcefully last fall, but that both profound uncertainty about the future and the Fed’s approach to setting policy slowed it down.
Officials had spent years dealing with tepid inflation, which made some hesitant to believe that rapidly rising prices would last. Even as they became more concerned, it took the Fed’s large group of policymakers time to come to an agreement on how to respond. Another complicating factor was that the Fed had made clear promises to markets about how it would remove support for the economy, which made adjusting quickly more difficult.
“It was a complicated situation with little precedent — people make mistakes,” Randal K. Quarles, who was the Fed’s vice chair for supervision in 2021, said at a conference last week.
Quarles, who left the Fed at the end of the year, argued that it should have begun to pull back support aggressively after September. He added, however, that the rate increases that central bankers were now making could still fix the situation.
Even so, the delay could come with consequences. By the time the Fed completely stopped buying bonds and began raising rates in March, prices were rising 8.5% from a year earlier, the fastest rate since 1981.
And as high prices have lingered, inflation expectations have been creeping up, threatening to change household and business behavior in ways that perpetuate the problem.
Because inflation is eating away at paychecks and making it more difficult for families to afford groceries and cars, it has emerged as a major political issue for President Joe Biden, whose approval ratings have fallen over concerns about his handling of the economy. During remarks at the White House on Tuesday, Biden called inflation his “top domestic priority” and said his administration was taking steps to contain it. He also sought to push back on Republicans, who have spent months blaming him for stoking inflation, saying their policy ideas were “extreme” and would hurt working families.
“I want every American to know that I’m taking inflation very seriously,”
Biden said, noting that the Fed has the “primary role” in trying to tame price increases.
The Fed is now raising rates quickly to wrestle the situation back under control. Officials lifted borrowing costs half a percentage point this month, their biggest increase since 2000, while broadcasting that two more large adjustments could be coming. They are also going to start shrinking their $9 trillion balance sheet of bond holdings next month.
If the Fed continues to rapidly adjust policy this year as it tries to catch up, policymakers risk slamming the brakes on a speeding economy. Such hard stops can hurt, pushing up unemployment and possibly tipping off a recession. Officials typically prefer to apply their policy brakes gradually, increasing the chances that the economy can slow down painlessly.