Economist Brad Delong believes that the US economy is in the midst of a soft landing, and that the Federal Reserve should have started cutting interest rates in January. Delong fears that the Federal Reserve “might upend America’s soft economic landing” if it doesn’t begin cutting interest rates soon.
DeLong points out that core CPI (omitting food and energy prices) has fallen recently; it’s lower than it was a year ago. There are several problems with DeLong’s reasoning. First, the Federal Reserve doesn’t base it’s policy on the core CPI measure of inflation. The Fed pays close attention to the PCE measure of inflation. Why? The CPI tracks prices for a fixed set of goods. PCE inflation rates adjust for changes in what we buy- people tend to substitute cheaper goods for costlier goods.
Core CPI has fallen recently, but the core PCE continues to rise (see the next graph). Hence, Fed Chair Jay Powell won’t and shouldn’t cut interest rates.
The Fed watches core inflation because food and energy prices tend to be volatile. Inflation indexes that include volatile prices can be misleading. Hence, core inflation measures may reveal trends in the economy. However, food prices have been relatively high for years- this isn’t just a transitory issue, we have been dealing with persistently higher food prices for some time now. The next graph shows how the food CPI has been both persistently high and less volatile than the CPI without food prices, recently.
De Long thinks that economists who oppose interest rate cuts are stuck in the past-
“what are the many who strongly think the Federal Reserve needs to keep interest rates at their current relatively high levels thinking? The answer is that they think that history often rhymes, and they are reaching back into the past and remembering an earlier time, the years 1977-1979 to be specific, and viewing it as a cautionary tale.” Brad Delong, May 2024
Inflation remains problematic. Any move by the Fed to cut interest rates this summer would be economically short sighted and irresponsible. Why is DeLong willing to risk persistent inflation? Part of the reason may be that he is reaching back into the past, the 1950s to be specific, when nearly all economists believed the myth that Fed and Treasury policies could “fine tune the economy”. Part of the reason may also be is that DeLong is a political partisan who fears that a recession would stop President Biden’s reelection. Is this a valid belief? We should note that food prices have trended above other prices before- most notably during Jimmy Carter’s Stagflation. Curtailing price inflation is unpleasant, and rather inconvenient for incumbents during election years, but it is responsible economic policy.
