Since August of last year, the Fed has been aiming to push inflation above 2% – not for its own sake, but to allow the labor market to fully recover from the shock of the pandemic. Inflation has now pushed well above 2% – headline CPI hit 5% year-on-year (y/y) in May of this year – but the labor market is still far from full recovery – in the same month, employment was 7.6 million (5.0%) below its pre-pandemic level in February of last year.
Vehicle demand has risen due to the lack of public transit alternatives and supply has fallen as production of new vehicles was stymied first by the pandemic and then by shortages of semiconductors (whose demand also skyrocketed).
Job openings in April rose to 9.3 million, the highest level on record and over 20% above its pre-crisis peak. There is now effectively a job opening for every unemployed person, the best ratio since January 2020, when the unemployment rate was just 3.5%. Rather, the challenge is that for a number of reasons people are either reluctant or unable to fill those jobs.
This is not to suggest that the Fed should raise interest rates next week or even a year from now. Low interest rates may not solve the supply challenges, but tightening financial conditions could worsen them.
Fed members will clearly have to adjust their near-term inflation views, but longer-term views will be more informative. Similarly, on the economic front, the near-term is likely to see more improvement, but with an increasing chance of even more fiscal stimulus down the road
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