As a consumer you might not like to see an increase in inflation, but a moderate increase is a sign of a healthy economy. Historically, wages will increase at the same pace as prices during periods of inflation. Therefore, as an economy we like to see steady growth in inflation. But muted inflation is a cause for concern for the Fed. For quite a while now, the central bank has failed to hit its 2 percent inflation target and expectation of rise in inflation has decreased recently. The Fed officials even lowered the target to 1.5 percent in March.
The U.S. Federal Reserve sees 2 percent inflation as the sweet spot for the economy. Currently, inflation is slightly below the 2 percent mark, but experts are concerned over the slow growth they are seeing in inflation. Earlier this week, the Federal Open Market Committee (FOMC) acknowledged that inflation is running below their 2 percent objective. Thus, economists worry that the economy is weakening, which would keep inflation below their target – something they would like to avoid.
Recently the Fed decided to hold interest rates steady at 2.25 percent to 2.5 percent. But there are signals that it’s ready to cut interests rates for the first time since 2008 to give a boost to the economy, which could indirectly stimulate inflation. The Fed would have to take these cuts carefully, because it could drive up inflation beyond healthy levels. On the other spectrum, if they do nothing inflation may fall as economic growth slows. Either path could lead to recession, but the FOMC stated they still foresee a moderate expansion of economic activity and a move toward 2 percent inflation.
Keith Knutsson from Integrale Advisors commented that “The Fed has to be cautious in their decision, cutting rates is inevitable but has be done carefully.”