Raising Rates?

THE BE YOUR OWN ECONOMIST ® BLOG

In a speech this evening at the Federal Reserve Bank of Boston (http://www.federalreserve.gov/newsevents/speech/bernanke20080609a.htm)
Federal Reserve Chairman Ben Bernanke said:

“…Indeed, although activity during the current quarter is likely to be weak, the risk that the economy has entered a substantial downturn appears to have diminished over the past month or so…..……

“Inflation has remained high, largely reflecting sharp increases in the prices of globally traded commodities. Thus far, the pass-through of high raw materials costs to the prices of most other products and to domestic labor costs has been limited, in part because of softening domestic demand. However, the continuation of this pattern is not guaranteed and future developments in this regard will bear close attention. Moreover, the latest round of increases in energy prices has added to the upside risks to inflation and inflation expectations. The Federal Open Market Committee will strongly resist an erosion of longer-term inflation expectations, as an unanchoring of those expectations would be destabilizing for growth as well as for inflation.”

The Fed was reluctant to reduce interest rates because of rising inflation. It did so, nonetheless, because of the collapse of residential construction, the resulting turmoil in financial markets and evidence of substantial overall economic weakness. Now the Fed, once again, has turned its attention to rising inflation.

Is a rate increase in the offing? What are the trade-offs, as far as the Fed is concerned, between rising prices and rising unemployment? How much of each is the Fed willing to tolerate?

© 2008 Michael B. Lehmann