For decades, the Federal Reserve considered inflation its prime enemy, and felt the unemployment rate gave a strong hint about when inflation would increase. When the unemployment rate drifted too low, the Fed raised interest rates to cool things down. In August 2020, after a two-year review and amid the pandemic’s traumatic spike in unemployment, that approach was abandoned. The result is a green light for President Biden’s plan to borrow and spend in hopes of generating jobs, confident the Fed won’t fight the process with higher interest rates.
Why the Fed doesn’t fear Biden’s $1.9 trillion bill
The Federal Reserve has tempered a war on inflation that preoccupied policy for the last half century. Workers may benefit.
Since the 1990s, inflation has remained low regardless of the unemployment rate
The link between inflation and unemployment comes from a bit of textbook economics known as the Phillips Curve. It’s broken. The unemployment rate no longer serves as a useful guide to future inflation.
Debt is cheaper now
Another reason the blow-out federal spending of last year and this year is not raising immediate alarm bells at the Fed about inflation or other problems is that the interest rate the U.S. pays to borrow money has been in steady decline. It costs less for the government to finance its deficits than it ever has. At the same time, economists have been revising their views about what level of debt is excessive, downplaying the size of a country’s debt compared to its economy.
Debt as a share of the economy has doubled since 1990, payments have fallen by half
Instead many recommend looking at the size of the interest payments the federal government must make. That way of looking at things favors the U.S., and makes the current level of borrowing seem less explosive.
St. Louis Federal Reserve
Jon McClure and Andrea Ricci