There is no good solution to the kind of inflation we're seeing right now
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- Inflation is still running at four-decade highs, but the potential solutions all have major drawbacks.
- Higher interest rates are the Fed's top tool for cooling inflation, but they could spark a recession.
- Options for lowering gas prices are either geopolitically fraught or too short-sighted.
Pick your poison. Inflation sits at the highest levels in more than four decades, and every feasible solution for fighting it comes with serious drawbacks.
Faster-than-usual price growth first emerged in early 2021 as a side effect of the country's reopening. The reversal of nationwide lockdown measures unleashed a nearly immediate surge of pent-up demand. Businesses, meanwhile, were slow to catch up. Historic spending crashed into limited supply, and firms quickly got to raising prices.
The following year has seen inflation shift from a sector-specific phenomenon to an economy-wide pain. Prices rose 8.6% in the year through May, reflecting the fastest price growth since 1981. Skyrocketing food and gasoline prices lead the way, but there are few pockets of the economy that aren't experiencing elevated inflation.
Yet as high prices threaten to pull the country into a new economic crisis, viable solutions are few and far between. Practically every fix for the inflation problem is either too slow, too risky, or too divisive.
The inflation problem has to be addressed, but the answer won't please everybody.
Expect some pain from the Fed's efforts
No matter what's powering dangerously high inflation, it's up to the Federal Reserve to rein it in, and the central bank has already made some big moves to slow the price surge. The Federal Open Market Committee raised interest rates by 0.75 percentage point on June 15, backing the largest rate cut since 1994 just days after new data showed inflation ramping up again in May. Fed Chair Jerome Powell hinted similarly large hikes could follow at the committee's July meeting.
The aggressive hiking cycle stands a decent chance of cooling inflation. Higher rates raise borrowing costs on everything from mortgages to credit card debt, in turn weakening spending and helping close the supply-demand imbalance fueling inflation.
Yet it comes with a fair share of drawbacks.
For one, higher rates take some steam out of the broader recovery. Many bearish economists — including a former president of the New York Fed — fear the rate hikes will slow growth to a halt and lead businesses to lay off workers en masse. While labor demand currently sits at historic levels, rising rates could quickly choke off spending and throw the economy into a recession.
Even if the Fed can avoid a self-inflicted downturn, higher rates could leave countless Americans with hefty financial burdens. Mortgage rates are already nearly double what they were at the start of the year, leaving new homebuyers with much larger monthly payments. Credit card rates, meanwhile, are closing in on record highs. After months of record-high spending, the uptick could pose a bigger risk to those running behind on paying their balances.
Rate hikes are the Fed's top tool for fighting inflation, and they have a strong record at actually cooling price growth. But with inflation running extremely high, the effort will come at a cost.
"The process of getting inflation down to 2% will also include some pain, but ultimately the most painful thing would be if we were to fail to deal with it and inflation were to get entrenched," Powell told Marketplace in May.
Untangling supply chains will take some time
Shoring up supply could tackle the inflation problem as well, but several obstacles stand in the way. Recent COVID-19 outbreaks in China threw the country's manufacturing hubs back into partial shutdowns, roiling supply chains all over again just as it looked like the situation was starting to heal. The decades-long shift toward a globalized economy yielded cheap labor and lower prices across a range of goods, but untangling the current mess is likely to be a slow and turbulent process.
There are several logistics problems at home, too. Truck driver shortages, port backlogs, and overfilled warehouses hobbled the domestic supply chain throughout 2021, and many of the issues haven't been fully solved. The Biden administration touted its $1 trillion infrastructure bill as a solution, but such investment takes years to show results. Without any further and more timely action from Congress, it's up to the private sector to work out the supply-chain kinks.
There's no good option for lowering gas prices
Much of the inflation problem boils down to gas prices. Costs at the pump are up nearly 50% from year-ago levels, and the national average price for a gallon of gasoline now hovers just below $5. As with broad inflation, there's just too much demand for gas and too little supply to go around. And there aren't any appealing options for finding more gas to sell.
The surge in energy prices accelerated when Russia invaded Ukraine in late February, raising concerns of new supply snags in the natural gas and oil markets. The rally intensified in March when the US, UK, and European Union slapped Russia's energy sector with severe energy embargoes. The measures aimed to cripple one of the Kremlin's biggest sources of revenue, but it left the West paying sharply higher energy prices. The US and its allies could reverse those sanctions to provide some quick relief, but doing so would mark a stunning hit to Ukraine and capitulation to Putin.
The US could also turn to Saudi Arabia as an emergency source of oil, but that option has its own hurdles. President Joe Biden is slated to visit the kingdom in July and meet Saudi Crown Prince Mohammad Bin Salman, and some expect the president to ask for increased oil production.
Yet Biden promised to reprimand Saudi Arabia for its reported role in the 2018 killing of journalist Jamal Khashoggi, and many Democratic allies in Congress aren't comfortable with the visit. Meeting with MBS is a "bad idea," Sen. Tim Kaine of Virginia told Insider's Joseph Zeballos-Roig earlier in June.
"I see very little evidence that the Saudis are going to lower gas prices," Sen. Ron Wyden of Oregon said. "I see a lot of evidence of their horrendous human rights violations."
Left with few other forms of relief, the Biden administration on Wednesday urged Congress to approve a three-month pause to the federal gas tax. The option would temporarily levy the 18 cent tax per gallon of gas and 24 cent tax on every gallon of diesel, but it resembles more of a band-aid than a meaningful solution. The stark imbalance between gas supply and demand could continue to lift prices even after the approval of a tax holiday.
There are also doubts on both sides of the aisle that the savings would reach consumers. House Speaker Nancy Pelosi withheld her support for such a measure back in March, raising concerns that oil companies would take the lion's share of the relief. With Republicans uniformly against such a holiday, even the most temporary aid to soaring gas prices is unlikely to win Congressional backing.
"Whatever you thought of the merits of a gas tax holiday in February it is a worse idea now," Jason Furman, a top economist in the Obama administration, wrote on Twitter.
from Business Insider https://ift.tt/XIQ2irk
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