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Inflation and Labour

Predicting the next steps of an unpredictable American economy

The current state of the U.S. economy has two divergent interpretations, based on recent data and historical evidence. The recent data suggests that the economy is currently thriving. The job market is better than it was before the COVID-19 pandemic, with more people working and paid more, and the gaps between different demographics are smaller. Inflation, which has long been a significant problem, is also dissipating, with consumer prices rising at a rate of 5% YoY in March 2023, the slowest pace in nearly two years. However, economists remain concerned that a recession is on the way, or the Federal Reserve may cause one while attempting to tackle inflation.

The SVB Delay

Most of the recent data available predates the collapse of Silicon Valley Bank and the upheaval in the banking system that followed. Already, small and midsize lenders have begun to tighten their credit standards in response to the crisis, which, in turn, could push their clients to cut back on hiring and investment. It will take a few months to understand the extent of the economic impact, but many forecasters, including the economists at the Federal Reserve, have said the turmoil has made a recession more likely.

The Federal Reserve began raising interest rates more than a year ago, but the effects of those increases are just beginning to show up in many parts of the economy. Only in March 2023 did the construction industry start shedding jobs, even though the housing market has been in a slump since the middle of last year. Manufacturers were also adding jobs until recently, and consumers are still grappling with the implications of higher rates for their ability to purchase cars, pay credit card balances, and take on other forms of debt.

A rock and a hard place

Some economists argue that the Fed has little choice but to keep raising rates until inflation is definitively in retreat. The recent slowdown in consumer price growth is welcome, they argue, but it is partly a result of declines in energy and used car prices, both of which appear poised to resume climbing. Measures of underlying inflation, which strip away such short-term swings, have fallen only gradually.

The Fed’s goal is to bring down inflation without causing a severe pullback in borrowing and spending that leads to widespread job cuts and a recession. Striking that balance perfectly is difficult because policymakers must base their decisions on data that is preliminary and incomplete. A miss in either direction could have serious consequences. The recovery of the U.S. job market over the past three years has been remarkable. The unemployment rate is down to the half-century low it achieved before the pandemic, with employers adding back all 22 million jobs lost during the early weeks of the pandemic, and three million more besides. The intense demand for labor has given workers a rare moment of leverage, in which they can demand better pay from their employers or find it elsewhere.

The strong rebound has especially helped groups that are frequently left behind in less dynamic economic environments. Employment has been rising among people with disabilities, workers with criminal records, and those without high school diplomas. The unemployment rate among Black Americans hit a record low in March 2023, and pay gains have in recent years been fastest among the lowest-paid workers.