Is a Soft-Landing Still Possible?
Everyone knows, at this point, the economy is in tatters. With inflation at a forty-year high (8.6%), gas prices at their highest point in history, hovering around five dollars a gallon (in some states six dollars a gallon), and mortgage rates rising faster than the space shuttle after take-off, the Federal Reserve has their work cut out for them.
Inflation occurs when too many dollars are chasing too few goods. As an example, if vast numbers of people are rushing to the store to buy the newest gaming console, it is only natural for the retailor to raise the price. Of course, it’s far more complicated than the above example (importers, wholesalers, rental building owners, the stock market etc., all play a part), but the example, at least puts you on the right path toward understanding what is going on. And remember: When inters rates rise, mortgage rates always rise.
Therefore, the Fed is trying to slow the economy down, so all those dollars are not chasing those goods. They do this by raising interest rates. When interest rates rise for people and businesses those entities are less likely to buy a car or a home. Businesses will find it too expensive to borrow and will shelve plans to expand.
But the Fed has a tough balancing act to do. When people and businesses severely slow their spending and economic growth falters, there is a danger of a recession, which is defined as a significant decline in economic activity, and the Gross Domestic Product (GDP) of the nation falls into negative territory for two consecutive months. And logically, when spending by consumers slows, employers begin to lay-off workers which leads to rising levels in the unemployment rate, falling sales, and contracting measures of manufacturing.
But there’s one problem: The Fed’s plan to slow the economy by raising interest rates is not guaranteed to work. So, if inflation stays high and the economy enters a recession, we then have the worst of all worlds – stagflation, which is defined as high interest rates combined with a recession. So, can we avoid a hard landing? Is a soft-landing still even possible?
The University of Michigan produces a survey each month of consumer sentiment concerning the economy. The latest survey showed that Americans’ expectations for future inflation are rising. This is very disturbing because the economy also is affected by psychology- consumer sentiments can lead to a self-fulfilling prophesy. As the Associated Press (AP) states, “If people expect higher inflation in the future, they often change their behavior in ways that increase prices. For example, they may accelerate purchases before they become more expensive. Doing so can intensify demand and further fuel inflation.” Simply stated, the survey showed that people believe high inflation will be with us for a long time.
Economists at the investment bank, Jefferies add, “The rise in long-run inflation expectations is a game changer.” The above info about people’s sentiment toward inflation and the economy, the expected rising unemployment rate, and falling equity markets does not bode well for a soft landing.
What can I say? Buckle up. We may very well be in for a hard landing.