The Fed Is Ending Pandemic Stimulus Sooner Than Planned. What Could It Mean for Inflation?

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U.S. Federal Reserve Chair Jerome Powell spoke on inflation and changes to the Fed's pandemic response at a virtual press conference following a Federal Open Market Committee (FOMC) meeting on Dec. 15, 2021. (Michael Nagle/Bloomberg via Getty Images)

U.S. Federal Reserve Chair Jerome Powell spoke on inflation and changes to the Fed's pandemic response at a virtual press conference following a Federal Open Market Committee (FOMC) meeting on Dec. 15, 2021. (Michael Nagle/Bloomberg via Getty Images)

December 16, 2021

The Federal Reserve has announced it will take action to reduce inflation.

At its monthly meeting Dec. 14 and 15, the Federal Open Market Committee (FOMC) — the branch of the U.S. Federal Reserve responsible for setting monetary policy, primarily by raising or lowering interest rates and buying bonds — decided to speed up the end of its asset-buying program launched in March 2020 to prevent a pandemic-induced economic crisis.

The new plan, with asset buying ending in March instead of June 2022, represents a change from the Fed’s previous timeline announced just last month.

Federal Reserve Chair Jerome Powell also suggested the Fed will increase interest rates three times in 2022, although he did not commit to concrete plans or a timeline.

“The Fed was more hawkish than it has been, but it doesn’t come as much of a surprise,” said Megan Greene, a senior fellow at Harvard Kennedy School’s Mossavar-Rahmani Center for Business and Government. The main U.S. indexes — S&P 500, Dow Jones and Nasdaq — were up immediately following the announcement.

In the FOMC meeting’s opening statement, Powell acknowledged that “price increases have now spread to a broader range of goods and services.”

Read more: No Taper Tantrum & Other Recent Federal Reserve News, Explained

Consumer prices rose 6.8% in November, the largest 12-month increase since 1982, according to the U.S. Department of Labor’s Bureau of Labor Statistics. In previous meetings, Powell, speaking for the committee, had said the FOMC saw inflation as “transitory” and primarily associated with supply-chain problems caused by the pandemic disruptions.

“There is a real risk now … that inflation may be more persistent” and that “the risk of inflation becoming more entrenched has increased,” Powell said in a press conference following the Dec. 15 meeting.

The Fed lowered interest rates in March 2020 to make money cheaper to borrow during the pandemic. Among other factors, low interest rates can contribute to high inflation, driving up the prices of goods and services, which in turn reduces purchasing power. This affects the whole population but hits people with lower incomes especially hard.

“We understand that high inflation imposes significant hardship, especially on those least able to meet the higher cost of essentials, like food, housing and transportation,” Powell said in the press conference.

Powell cited the strengthening of the labor market as a reason for the FOMC decision, as the economy walks towards what the Fed calls “maximum employment.”

Read more: What Do the Federal Reserve’s New Ethics Rules and Other Changes Mean?

“Chair Powell was very specific about what changed his mind on inflation. He cited three specific indicators: the Employment Cost Index, the Consumer Price Index and the latest jobs data,” said David Wessel, head of the Brookings Institute’s Hutchins Center on Fiscal and Monetary Policy.

On Nov. 30, Powell hinted at the upcoming change when he testified before the Senate Banking Committee and acknowledged the risk of persistent inflation. The communication strategy — of previewing Fed decisions before official announcements — is in line with Powell’s recent practice. Experts told FRONTLINE they see the method as a lesson learned from the so-called taper tantrum, when, in 2013, then-Fed Chair Ben Bernanke announced the end of an earlier round of bond-buying, and the markets revolted.

“Powell is living up to his promise to not surprise markets,” said Kaleb Nygaard, a senior research associate at the Yale Program on Financial Stability. “The message is that the Fed is paying close attention to the data and truly will adjust as necessary.”

The Fed previously turned to wide-scale asset purchasing — stocks, bonds, mortgage-backed securities — as a strategy to inject money into the economy after the 2008 financial crisis. Also known as quantitative easing, or QE, the latest round has been credited with avoiding a COVID-19-induced economic crash, but, as examined in the July 2021 FRONTLINE documentary The Power of the Fed, some experts questioned why it was still continuing a year and a half later.

Read more: Who Is on the Federal Reserve Board?

The Federal Reserve Bank had been buying $120 billion each month in U.S. Treasury securities and mortgage-backed securities before it began reducing those purchases last month. The FOMC’s Dec. 15 announcement reduces the pace of monthly buying further, with a plan to reach $0 in asset purchases in March 2022.

Some experts told FRONTLINE the tapering could have ended earlier.

“The net effect of today’s announcement is that the Fed is injecting more money into the economy,” said Andrew Huszar, a former official at the New York Federal Reserve Bank who managed the institution’s first quantitative easing program, in response to the 2008-09 economic crisis.

“The [interest] rate hikes, first of all: It was only language. It was talking about the possibility of hikes. The markets are up … because the punchbowl is still open. It’s still easy money. I don’t think any move that they did today has a meaningful impact on inflation.”

The FOMC “delayed longer than they should have to start tapering and now are under pressure to accelerate, which could prove to be destabilizing,” said Sheila Bair, chair of the U.S. Federal Deposit Insurance Corporation (FDIC) from 2006 to 2011.

She said prolonged monetary accommodation has damaging effects on the economy. “This includes not only consumer price inflation, which has now raised its ugly head, but financial instability with the buildup of debt, excessive speculation and bubbly conditions in everything from residential real estate to Dogecoin.”

Listen: The Federal Reserve’s Big Experiment from The FRONTLINE Dispatch podcast

“We are coming out of … the first really global, modern pandemic, which looked, at the beginning, like it might cause a global depression,” Powell said in the press conference. “So [we] threw a lot of support at it, and what’s coming out now is really strong growth, really strong demand, high incomes and all that kind of thing. People will judge in 25 years whether we overdid it or not.”

“Inflation is like a regressive tax,” said Greene, from the Harvard Kennedy School. “It hits those with lower incomes more than it hits those with higher incomes, just because those with lower incomes tend to spend a higher percentage of their income than those with higher incomes. Inflation exacerbates inequality, which we already have quite a lot in the U.S.”

Powell also said he has been consulting public health experts about how the Omicron variant could impact the U.S. economy, which could mean further policy shifts from the Fed.

Said Wessel, of Brookings, “What would change the Fed’s course, more than anything, would be if the Omicron variant proves economically devastating.”

The Power of the Fed is now streaming in FRONTLINE’s online film collection, on the PBS Video app, on FRONTLINE’s YouTube channel and below.


Paula Moura

Paula Moura, Tow Journalism Fellow, FRONTLINE/Newmark Journalism School Fellowship, FRONTLINE

Twitter:

@PaulaMoura_san

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