Local economist discusses inflation decrease, what Fed could do next
COLORADO SPRINGS, Colo. (KRDO) -- A sign of hope from Thursday's newly-released inflation numbers.
The latest Consumer Price Index report shows prices are up 7.7 percent — down from 8.2 percent last month. It's a decrease even better than economists expected.
Tatiana Bailey, the Executive Director of Data-Driven Economic Strategies, sat down with KRDO's Mallory Anderson to explain what these decreasing numbers mean, and what the Fed might do to continue to bring down inflation.
What was your reaction to Thursday's Consumer Price Index report?
Tatiana Bailey: You know, I was thinking that probably was either going to stay the same or come down a little bit. The main reason for that is because some of the supply chain bottlenecks that we've been seeing for so long now, a year and a half, almost two years, are finally starting to abate. You can look at like the port reports and so forth. But then again, I was a little concerned, because of how broad-based and I have been concerned about inflation for a long time because of how broad-based it is. It's harder to fix when it's almost everything across the board. The thing that I found really interesting, though, is that the expectation was for inflation to come down to 7.9 percent and it ended up being at 7.7 percent. So that's good news. The other piece of good news is that most of the goods saw modest decreases. So the decreases are now becoming broad-based as well. So that's fantastic. What surprised me, however, was the market reaction to that. You know, all of a sudden it's, 'Oh, the Federal Reserve is not going to need to be as aggressive raising interest rates,' and that, of course, helps corporations. So, you know, the Nasdaq is off the charts, S&P 500, Dow, and so forth. I don't think that's going to last. You know, typically the stock market overreacts to good news and to bad news. I think they're really overreacting.
What can the Fed do to continue to bring down inflation?
Bailey: If you look historically, the only way that the Federal Reserve has been able to bring down inflation, is to raise interest rates at the same level as the inflation rate. Right now, we're not even quite at a 4 percent Fed funds rate, but inflation is still close to 8 percent. So now we're talking 300, 400 basis points, you know, meaning about a 3 to 4 percent increase still in interest rates in order to bring down inflation, unless inflation comes down appreciably and quickly. But historically, that has not been the case. Usually, it takes not very long for inflation to increase, but a long time for it to come back down. Now, having said that, I do think it's going to come down a little bit quicker than it has historically. But we still have a really long way to go to get to that 2 percent target.
How much more is the Fed going to need to raise rates?
Bailey: Best case scenario is that at the next meeting, they raise interest rates only by 50 basis points, so .5, and they hold there. That wouldn't be so bad. But remember, that's still a Fed funds rate. That's much higher than most people would like. And look at already what's happening, for instance, in the housing market. It's very difficult for people to afford a home at 7 percent, 30-year mortgage rate when baseline prices have increased by ten, to 20 percent in a lot of markets. So, yes, it's good news, but we still have a really long way to go.
Is there any scenario where the Fed doesn't raise rates?
Bailey: It's not possible. There aren't too many times an economist will be that sure of what they say. But I will tell you, that is not possible. There is no way that we can be anywhere near a seven or 8 percent inflation rate. And the Federal Reserve sits. It's just not going to happen. So best case scenario is that some of the decreases that we've seen continue to be broad-based and continue to go in the correct direction, which is down. That would be the best-case scenario. Matched to that would be the Federal Reserve saying, 'Okay, at least things are moving in the right direction. So we're going to pause for a while after this 50-point base basis increase' that's going to be coming up at the next meeting, undoubtedly. So, you know that that kind of gives us breathing room. Now, if indeed, and I don't think this is necessarily going to happen, but if indeed inflation still continues to come down well into 2023, that would be best case scenario. But I just don't think it's going to come down to the extent that we need it to.
Sometimes I think as Americans we can kind of just stay in our little 'American bubble' and think that this is just an issue with our current policies or with our economy. Inflation is affecting everybody right now, and from what I've read, we are kind of getting off better than some of the other countries, right?
Bailey: Absolutely, and I think that's an important thing to remember. You know, especially with the midterm elections just a couple of days ago, there was a lot of finger-pointing in terms of, you know, it's because there are too many Democrats, and that's why inflation is what it is. This is an agnostic issue. You know, the pandemic was a pandemic. It was global. And that's really what triggered this cycle of inflation. You're right, it is a lot worse in other nations than it is in the United States. Part of the reason I think we've done better is because we are the reserve currency of the world and relatively speaking, even though we have our issues and our struggles right now, we're doing better than most of the world. That is definitely helping in terms of taming inflation, albeit slowly.
Is the recent CPI report proof that economic policies put in place are working, or that the rate hikes are working?
Bailey: "I think that's a great question because I've been a little bit critical of the interest rate hikes being as aggressive as they have been. Yes, it's true, 8 percent inflation is not tenable and the Federal Reserve had to do something. But there are two reasons why I was critical. The first one is, there's a lag in the amount of time between when the Federal Reserve starts raising interest rates and we really start to see broad inflation come down. It always hits the housing market first, because boom, you know, within a week or two you can have a 30-year mortgage go from 5% to 7%. But in terms of the other goods, it takes a long time. So boom, boom, boom, all of these increases at once can be a little too much medicine. The other reason I find it a bit concerning is that when the Federal Reserve does these types of increases, you have the other side, and that's corporations start to pull back and so forth, and unemployment can go up. Yes, we're at very low levels, three and a half percent, which is incredibly low unemployment. But if you give people a choice, do they want to lose their job, or do they want to pay more at the grocery store or at the gas pump? They're probably going to say 'I'll deal with the inflation.' So I would have preferred for the Federal Reserve to raise interest rates maybe at one meeting, and then hold for two or three meetings, because they are basing their decisions on data that came in from last month or the month before. So, their response time, if you will, is delayed also. That's another good reason, I think, to be a little bit more cautious with interest rate increases, even in the face of really high inflation.
Since we're probably not done raising interest rates, is there any estimate on when the Fed could start pulling back? Is it years from now?
Bailey: It's really difficult to say and more difficult, I think, than usual because of all of the distortions caused by the pandemic. Then on top of that, the Ukrainian crisis and so forth. So it is difficult to say, but most experts who are looking at things like shipping containers and COVID policies in other countries and so forth, are saying that we're going to have elevated inflation throughout 2023 and that probably, hopefully, things can normalize in 2024. That's, in fact, why a lot of experts are also calling for a mild recession in 2023 because when you have sustained inflation alongside GDP growth rates that are pretty stagnant, that's called stagflation.
On the topic of the recession, we've ran a lot of stories that have said that economists are split on whether or not we're in one right now. Why is it so difficult to determine that?
Bailey: Well, you can always rely on economists to make something more complicated than it should be. You know, we did have two consecutive quarters of negative GDP, the first and second quarters of 2022. They were pretty modest negative reads. But nonetheless, two consecutive quarters or more usually means a recession. The reason that it's kind of up for debate is that the unemployment rate was still really low, consumption was still really high, people were still going out and buying in spades, including homes, including cars, you know, much less other things. So there was a lot of conflicting data. I kind of tended to agree that we probably really weren't in a recession because if people have jobs and if they're willing to go out and spend, that usually means the economy is chugging along, even if it's not at really robust levels. Then, sure enough, Q3 came in and we were positive. So far the data that's starting to amass for Q4 of this year is even more positive. So I would say probably 2022 did not have or will not have a technical recession. We'll see for 2023.
What does this recent CPI report mean for the everyday person? Can we start to hope for changes in prices soon?
Bailey: I'd say it gives reason for hope that inflation is indeed finally abating, retreating to some extent. The good news is, too, not only was it broad-based, as I mentioned, with many goods showing modest decreases, but also it's the third month in a row that we're starting to see some declines across these different categories. It's difficult to say because, for instance, gasoline, that's a huge component of most people's household budget shelters and another big one, and those are still elevated. Gasoline in particular is really volatile right now. So, you know, I'm cautiously optimistic.
The stock market jumped at the news of the CPI report. How does the corporate world benefit from this?
Bailey: Well, it's interesting because corporations typically have lines of credit for all kinds of different reasons. Right. Good reasons. In a lot of cases, those are on variable-rate loans. So as soon as interest rates start to increase, their costs of doing business are higher. Their costs of any type of financing increase substantially. You can even just have a half a percentage point increase and that's going to affect their bottom line. Remember that those interest rates have been incredibly low for a very long period of time. So they got comfortable at that level. And then, of course, if you have some of the other headwinds, you know, like other economies that are struggling more than we are, Europe is in a recession, by all accounts, then that also impacts the global demand for their goods.
There have been some rumblings that some of the prices of goods are not necessarily affected by inflation, but it's corporations jacking up the prices. Is it an issue that inflation maybe isn't affecting us as much as greed is?
Bailey: I'm a big proponent in the capitalist system of making sure that you don't have monopolies and oligopolies. For instance, I want to say maybe a year and a half or so ago when prices really started to increase in food categories, I didn't even know at that time that there are only two or three producers of a lot of meat in the United States. That's not just red meat, but also pork and chicken and so forth. It appeared that as soon as prices started to go up, they increased prices even more so because it's kind of a necessity. So there was a lot of speculation. I believe even the Biden administration started some type of investigation, but we never heard too much about it after that. Unfortunately, that does happen, there is some price gouging that occurs. You look at a lot of energy companies. That's an interesting one as well. Energy prices are so high, hurting the household, the American budget, and yet 2021 record profits.
I know it's hard to predict what's going to happen, but what do you sort of expect for 2023?
Bailey: 2023, I think, is still going to be characterized with a lot of volatility. Honestly, when you look at not only inflation, the Ukrainian crisis, and a lot of the world teetering on a recession, I just don't see any way around another volatile year, unfortunately. Hopefully, the pandemic is behind us and, you know, COVID is endemic. That's a huge plus right there. I recently have been talking about the fact that even with all its imperfections, I think the United States is probably in a better position than a lot of the rest of the world, not only because of the reserve currency but also because we produce a lot of agricultural goods, we produce a lot of energy. Right there you have two essentials, necessities, that if things really did go sideways in other parts of the world, the president could execute some executive orders that would really help out Americans. I think we're still going to have a lot of issues ahead of us, that's not going away. But we'll be relatively better off.
