“In the 1970s, inflation expectations became unmoored, and it took years for the Fed to bring inflation back to lower levels,” St. Louis Fed President James Bullard said in a speech prepared for delivery at an economic conference in Barcelona.
The 1970s was generally known as the decade of inflation in the United States. While the average inflation rate for the decade was 6.8%, it was double the long-run historical average and nearly triple the rate of the previous two decades.
“The real economy was also volatile during this process,” Bullard said, referring to that era.
Similarly, current price pressures are above target and at levels last seen in the 1970s and early 1980s, he said.
“US inflation expectations could become unmoored without credible Fed action, possibly leading to a new regime of high inflation and volatile real economic performance," Bullard said. “The Fed has reacted by taking important first steps to return inflation to the 2% target. Market interest rates have increased substantially, partially in response to promised Fed action.”
The mooring or anchoring of inflation expectations is a necessary condition for central banks to maintain price stability, as it prevents temporary shocks to inflation from feeding into the mechanisms of wage and price formation. De-anchoring produces the opposite effect, creating instability.
The International Monetary Fund’s First Deputy Managing Director Gita Gopinath said earlier this month that US inflation could exceed the Fed’s targets longer than thought and become “de-anchored” to expectations.
The Fed announced last week its stiffest US rate hike in 28 years to fight inflation, adding a three-quarter point that brought key lending rates to as high as 1.75% from May’s peak of 1%.
US inflation, as indicated by the Consumer Price Index, grew at an annualized rate of 8.6% in May — more than four times the Fed’s target. The Fed’s preferred rate of inflation is a mere 2% a year and it has vowed to raise rates as high and long as necessary to bring price growth back to its annual target.
Economists, however, fear that the Fed will push the US economy into a recession with the way it’s going with rate hikes.
The US economy has already shown a negative growth of 1.4% for the first quarter. If it does not return to the positive by the second quarter, the United States will technically be in a recession, given that it takes just two straight quarters of negative growth to make a recession.
Fed Chair Jerome Powell denied assertions last week that the central bank was pushing the country toward recession, even as he expressed doubts about whether the central bank could achieve a so-called soft landing for the US economy.