The US added a whopping 379,000 jobs in February and the economy is poised to take off, but improved growth prospects could come at a cost in the short term.
In short, inflation.
Make no mistake, inflation is still very low at this point and has been for the past ten years. The coronavirus pandemic suppressed inflation early last year, and even now prices are rising by less than 2% per year.
Read: Inflation concerns are back. Should you be concerned?
The loss of so many jobs during the pandemic – nearly 10 million are still missing – and the resulting drop in demand is also helping to keep inflation in check.
“It is difficult, if not impossible, to generate sustained inflation and higher inflation expectations when the economy is so far from full employment,” said Bank of the West chief economist Scott Anderson.
See: A visual look at how an unfair pandemic has changed work and life
That could change in the coming months. How comes? Rising oil prices. Shortages of raw materials and other important supplies such as wood and semiconductors. And another round of massive government funding to Americans.
After falling to close to zero last May, the annual rise in the consumer price index rose to 1.4% in January – and is expected to continue to rise. The CPI is the government’s main tool for tracking, among other things, the cost of living and determining how much social security benefits should be increased each year.
Economists predict that the CPI will rise 0.3% in February, pushing the annual interest rate up to 1.7%. The report, due out next Wednesday, is the highlight of the week on a bright economic calendar.
See: MarketWatch Economic Calendar
By the summer, many economists estimate that the cost of living will be above 2% on an annual basis and past the Federal Reserve’s 2% target.
Evidence of rising prices is growing. For example, a few ISM purchasing managers reported last week that companies are paying significantly higher prices for a wide variety of supplies they need to produce goods and services.
A business supply price barometer rose to a peak in 10 years, causing a wholesaler executive to be concerned about “a sustained inflow of price increases due to raw material shortages, labor shortages and transportation delays.”
Then there are the oil prices. Petroleum costs have risen 25% since early January, after Saudi Arabia and other non-US suppliers cut production. This also results in higher prices.
Throwing fuel on the fire is nearly $ 2 trillion in new financial aid from Washington just as the economy appears to be accelerating. The Democrat-led Congress and White House are expected to pass the bill within days.
As a result, inflation is sure to rise in the coming months. The big question is, will it be just a temporary phenomenon related to a full reopening or the economy? Or something worse that will endure?
Fed Chairman Jerome Powell and most senior central bank officials are betting that the price hikes will not last. Powell has repeatedly predicted that the expected burst of inflation will subside and pose no threat to the economy.
The danger, some economists warn, is that a spike in inflation will increase investor uncertainty, push up interest rates and potentially undermine the economic recovery.
Home sales, car sales, and many other consumer and business activities have benefited immensely from the lowest interest rates. Not to mention record gains in the stock market that some of the Fed’s critics link to the central bank’s easy-money strategy.
Even if Powell is right, the rise in inflation is likely to complicate the path of an economic recovery in the US if investors continue to harbor doubts.
“Powell is willing to let inflation rise and is unlikely to take action if it doesn’t get out of hand,” ING economists James Knightley and Padhraic Garvey said in a note to clients. “The problem is, we don’t know if it’s under control or not until we let it rip a little bit.”