Inflation still persists at 2% above the Fed target even though the rate cuts have lowered the interest rate from 4.25% to 4.5%
Since mid-2022, inflation has been at its peak. The US Federal Reserve has been aggressively trying to control it, succeeding recently. However, it raised the question of whether the Feds just got lucky or whether the Federal Reserve strategy works.
Let’s explore the Fed’s interest rate cuts and inflation control policy in detail to answer the above question.
Interest Rate Reductions and Forecasts
The Federal Reserve has eased inflationary trends by bringing down its benchmark interest rate. Currently, the interest rate stands at 4.25% to 4.5%, which is 1 percentage point lower than September 2024’s.
The Fed further cut interest rates by 0.5 percentage points in September and by 0.25 percentage points in November. Initially, the Fed projected a more aggressive cut, but it now expects a more modest additional drop of 0.5 percentage points by the end of 2025. It indicates that the battle against inflation is far from over. This shows that the US central bank is responsive and is focusing on maintaining economic stability while remaining vigilant on inflation.
Inflation Trends: Progress but Persistent Pressures
Inflation in November 2024 was at 2.7%, a tad higher than the 2.6% recorded in October. This is a significant drop from the peak of 9% in June 2022, but inflation is still not back to the Fed’s target level of 2%. This lingering inflation underscores the central bank’s complexities in achieving its price stability goal.
While inflation has dropped precipitously from its peak, it is evident that Fed policy tightening interest rates aggressively participated in this decline. On the other hand, some of the very favorable conditions behind these inflationary reprieves might be working at least as forcefully- say, lower energy prices or a slowing global supply chain disruption.
Key Economic Indicators: Labour Market and Consumer Spending
Among its measures to contain inflation, the Federal Reserve also closely watches the labor market, another critical component of the dual mandate of maximum employment and price stability. Through end-2024, the unemployment rate in the United States stood at a low of approximately 4.2%.
Even though job gains have eased, there has been no deterioration in the labor market. Vacancies are slowly easing and suggest that the tight labor market is cooling, which will bring more balanced wage pressures.
At the same time, consumer expenditure remains buoyant. According to the most recent update on retail sales in November 2024, they increased by 0.7% and beat estimations despite increasing borrowing expenses. This would indicate a resilient consumer demand, so the Fed has not succeeded in stifling consumer spending as it looks to curb inflation.
Double Mandate: A High-Wire Balancing Act
The dual mandate by the Federal Reserve, focusing on fostering maximum employment while ensuring price stability, is the basis of their decision-making. S
Since inflation is beginning to ease, supporting employment becomes the primary focus for the Fed, especially considering economic stability. The risks in meeting these goals appear to be better balanced, leaving the central bank with scope to reassess a less aggressive stance in terms of rate cuts for 2025. However, high inflation, which continues above the 2% target, indicates that the job isn’t done yet.
The Fed’s recent decisions are measured by continuously monitoring the economic indicators to determine what they should do next. Inflation has cooled down from its high, but the central bank is still cautious, thinking that the battle is far from over.
Conclusion: Strategy or Luck
Although the interest rate decisions of the Federal Reserve and its efforts to control inflation have been evident, the recent decline in inflation may also be attributed to favorable economic conditions.
The strategic decisions of the central bank, coupled with global factors such as lower energy prices and supply chain normalization, have allowed for some success. However, with inflation still above the target rate, the Fed’s delicate balance between controlling inflation and fostering employment remains a work in progress.
Thus, the answer to the Fed’s success may depend on how future economic conditions evolve and whether the Fed can maintain its momentum in the face of persistent inflation.
