Inflation just fell when rate hikes were paused. So why should the Fed keep hiking?

CNN Newsource Pristine Villarreal

New York (CNN) — Inflation cooled for the 12th consecutive month in June, moving to 3% from 4% in Mayaccording to the latest Consumer Price Index data from the Labor Department.

But last month’s inflation report was an outlier — for the first time, the declines weren’t immediately preceded by a rate hike from the Federal Reserve. Instead, for the first time in over a year, the central bank said it would hold interest rates steady to learn more about how its cumulative five percentage point rate hike since last March has impacted the economy.

But while CPI has cooled, the Fed’s preferred inflation gauge, the Personal Consumption Expenditures index, shows that inflation is still double its 2% target.

So, ahead of its next meeting, on July 25-26, the Fed is trying to figure out how many more rate hikes are needed to get inflation closer to that target.

Given the progress that was made in June, could the answer be none?


One month doesn’t dictate a trend


Fed Chair Jerome Powell has said it time and time again: One month’s data is not indicative of a trend.

“It’s difficult to elicit any trends from one month’s worth of data,” said Kermit Schoenholtz, New York University professor emeritus and the former chief economist at Citigroup. At the extreme, he said, it would be like using one hour’s worth of economic data to make overarching assumptions about the state of the economy.


Should the Fed continue to raise rates?


Powell repeatedly stresses that the Fed takes a data-dependent approach to interest rate decisions.

“They now have in hand evidence of a slowing labor market, a decline in goods prices excluding food and energy, roughly unchanged prices in an important category of services, and strong evidence of declining shelter inflation on the horizon,” said Wendy Edelberg, director of the Hamilton Project at the Brookings Institution.

“I think an excellent case can be made for again standing pat at the next meeting,” she told CNN.

Fed officials, however, have signaled they’re likely to raise rates by a quarter point at its next meeting. But the looming question is what the Fed should do for the rest of the year.

In Schoenholtz’s view, the Fed should continue to hike interest rates even though inflation slowed down sharply in June despite the central bank holding rates steady.

The Fed needs people to believe it means business when it comes to its 2% target, he said. Otherwise, people will expect higher levels of inflation and businesses will continue to set prices accordingly.

If the Fed waits too long to raise interest rates, it could risk its credibility, leading to a persistently higher price level that’s harder for the Fed to crack down on.

The central bank’s aggressive rate hikes are getting prices to stabilize, he added. “[Fed officials] do not want to sacrifice what they’ve gained.”

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