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The last time the United States came perilously close to defaulting on its debt, a Democratic president and a Republican speaker of the House cut a deal to raise the nation’s borrowing limit and tightly restrain some federal spending growth for years to come. The deal averted default, but it hindered what was already a slow recovery from the Great Recession. The debt deal that President Biden and Speaker Kevin McCarthy have agreed to in principle is less restrictive than the one President Barack Obama and Speaker John Boehner cut in 2011, centered on just two years of cuts and caps in spending. The economy that will absorb those cuts is in much better shape. As a result, economists say the agreement is unlikely to inflict the sort of lasting damage to the recovery that was caused by the 2011 debt ceiling deal — and, paradoxically, the newfound spending restraint might even help it. “For months, I had worried about a major economic fallout from the negotiations, but the macro impact appears to be negligible at best,” said Ben Harris, a former deputy Treasury secretary for economic policy who left his post earlier this year. “The most important impact is the stability that comes with having a deal,” Mr. Harris said. “Markets can function knowing that we don’t have a cataclysmic debt ceiling crisis looming.” Mr. Biden expressed confidence earlier this month that any deal would not spark an economic downturn. That was in part because growth persisted over the past two years even as pandemic aid spending expired and total federal spending fell from elevated Covid levels, helping to reduce the annual deficit by $1.7 trillion last year. Asked at a news conference at the Group of 7 summit in Japan this month if spending cuts in a budget deal would cause a recession, Mr. Biden replied: “I know they won’t. I know they won’t. Matter of fact, the fact that we were able to cut government spending by $1.7 trillion, that didn’t cause a recession. That caused growth.” The agreement in principle still must pass the House and Senate, where it is facing opposition from the most liberal and conservative members of Congress. It goes well beyond spending limits, also including new work requirements for food stamps and other government aid and an effort to speed permitting for some energy projects. But its centerpiece is limits on spending. Negotiators agreed to slight cuts to discretionary spending — outside of defense and veterans’ care — from this year to next, after factoring in some accounting adjustments. Military and veterans’ spending would increase this year to the amount requested in Mr. Biden’s budget for the 2024 fiscal year. All those programs would grow by 1 percent in the 2025 fiscal year — which is less than they were projected to. A New York Times analysis of the proposal suggests it would reduce federal spending by about $55 billion next year, compared with Congressional Budget Office forecasts, and by another $81 billion in 2025. The first back-of-the-envelope analysis of the deal’s economic impacts came from Mark Zandi, a Moody’s Analytics economist. He had previously estimated that a prolonged default could kill seven million jobs in the U.S. economy — and that a deep round of proposed Republican spending cuts would kill 2.6 million jobs. His analysis of the emerging deal was far more modest: The economy would have 120,000 fewer jobs by the end of 2024 than it would without a deal, he estimates, and the unemployment rate would be about 0.1 percent higher. Mr. Zandi wrote on Twitter on Friday that it was “Not the greatest timing for fiscal restraint as the economy is fragile and recession risks are high.” But, he said, “it is manageable.” Other economists say the economy could actually use a mild dose of fiscal austerity right now. That is because the biggest economic problem is persistent inflation, which is being driven in part by strong consumer spending. Removing some federal spending from the economy could aid the Federal Reserve, which has been trying to get price growth under control by raising interest rates. “From a macroeconomic perspective, this deal is a small help,” said Jason Furman, a Harvard economist who was a deputy director of Mr. Obama’s National Economic Council in 2011. “The economy still needs cooling off, and this takes pressure off interest rates in accomplishing that cooling off.” “I think the Fed will welcome the help,” he said.

The Federal Reserve’s push to slow the economy and bring inflation under control is often compared to an airplane descent, one that could end in a soft landing, a bumpy one or an outright crash. Jerome H. Powell, the Fed chair, is betting on something more akin to the Miracle on the Hudson: a touchdown that is gentle, all things considered, and unlike anything the nation has seen before. The Fed has raised rates sharply over the past year, pushing them just above 5 percent on Wednesday, in a bid to cool the economy to bring inflation under control. Staff economists at the central bank have begun to forecast that America is likely to tip into a recession later this year as the Fed’s substantial policy moves combine with turmoil in the banking sector to snuff out growth. But Mr. Powell made it clear during a news conference on Wednesday that he does not agree. “That’s not my own most likely case,” he said, explaining that he expects modest growth this year. That sunnier forecast has hinged, in part, on trends in the labor market. America’s job market is still very strong — with rapid job growth and unemployment hovering near a 50-year low — but it has shown signs of cooling. Job openings have dropped sharply in recent months, falling to 9.6 million in March from a peak of more than 12 million a year earlier. Historically, such a massive decline in the number of available positions would have come alongside layoffs and rising joblessness, and prominent economists had predicted a painful economic landing for exactly that reason. But so far, unemployment has not budged. “It wasn’t supposed to be possible for job openings to decline by as much as they have declined without unemployment going up,” Mr. Powell said this week. While America will get the latest update on unemployment when a job market report is released Friday, unemployment has yet to rise meaningfully. Mr. Powell added that “there are no promises in this, but it just seems to me that it is possible that we can continue to have a cooling in the labor market without having the big increases in unemployment that have gone with many prior episodes.” America’s economic fate rests on whether Mr. Powell’s optimism is correct. If the Fed can pull it off — defying history to wrangle rapid inflation by sharply cooling the labor market without causing a big and painful jump in joblessness — the legacy of the post-pandemic economy could be a tumultuous but ultimately positive one. If it can’t, taming price increases could come at a painful cost to America’s employees. Some economists are skeptical that the good times can last. “We haven’t seen this trade-off, which is fantastic,” said Aysegul Sahin, an economist at the University of Texas at Austin. But she noted that productivity data appeared glum, which suggests that companies got burned by years of pandemic labor shortages and are now hanging onto workers even when they do not necessarily need them to produce goods and services. “This time was different, but now we are getting back to the state where it is a more normal labor market,” she said. “This is going to start playing out the way it always plays out.” The Fed is in charge of fostering both maximum employment and stable inflation. But those goals can come into conflict, as is the case now. Inflation has been running above the Fed’s 2 percent goal for two full years. While the strong labor market did not initially cause the price spikes, it could help to perpetuate them. Employers are paying higher wages to try to hang onto workers. As they do that, they are raising prices to cover their costs. Workers who are earning a bit more are able to afford rising rents, child care costs and restaurant checks without pulling back. In situations like this, the Fed raises interest rates to cool the economy and job market. Higher borrowing costs slow down the housing market, discourage big consumer purchases like cars and home improvement projects, and deter businesses from expanding. As people spend less, companies cannot keep raising prices without losing customers. But setting policy correctly is an economic tightrope act. Policymakers think that it is paramount to act decisively enough to quickly bring inflation under control — if it is allowed to persist too long, families and businesses could come to expect steadily rising prices. They might then adjust their behavior, asking for bigger raises and normalizing regular price increases. That would make inflation even harder to stamp out. On the other hand, officials do not want to cool the economy too much, causing a painful recession that proves more punishing than was necessary to return inflation to normal. Striking that balance is a dicey proposition. It is not clear exactly how much the economy needs to slow to fully control inflation. And the Fed’s interest rate policy is blunt, imprecise and takes time to work: It is hard to guess how much the increases so far will ultimately weigh on growth. That is why the Fed has slowed its policy changes in recent months — and why it appears poised to pause them altogether. After a string of three-quarter point rate moves last year, the Fed has recently adjusted borrowing costs a quarter point at a time. Officials signaled this week that they could stop raising rates altogether as soon as their mid-June meeting, depending on incoming economic data. Hitting pause would give central bankers a chance to see whether their rate adjustments so far might be sufficient. It would also give them time to assess the fallout from turmoil in the banking industry — upheaval that could make a soft economic landing even more difficult. Three large banks have collapsed and required government intervention since mid-March, and jitters continue to course through midsize lenders, with several regional bank stocks plummeting on Wednesday and Thursday. Banking troubles can quickly translate into economic problems as lenders pull back, leaving businesses less able to grow and families less able to finance their consumption. The labor market could be in for a more dramatic slowdown, given the bank tumult and the Fed’s rate moves so far, said Nick Bunker, the director of North American economic research at the job site Indeed. He said that while job openings have been coming down swiftly, some of that might reflect a shift back to normal conditions after a bout of pandemic-inspired weirdness, not necessarily as a result of Fed policy. For instance, job openings in leisure and hospitality industries had spiked as restaurants and hotels reopened from lockdowns. Those were now disappearing, but that might be more about a return to business as usual. “A soft landing is happening, but how much of that is gravity and how much of it is what the pilot is doing with the plane?” Mr. Bunker said. Going forward, it could be that the normal historical relationship between declining job openings and rising joblessness will kick in as policy begins to bite. Or this time truly could be unique — as Mr. Powell is hoping. But whether the Fed and the American economy get to test his thesis could depend on whether the banking system issues clear up, Mr. Bunker said. “We might not get the answer if the financial sector comes and tips the table over,” he said.

As has recently been shown, short-term inflation estimates must be consumed with a mountain of Morton’s. When the Federal Reserve surveyed its members in December 2021, the single highest forecast for this year’s change in the Personal Consumption Expenditures Price Index was 3.2%. Although the PCE index has not increased as sharply as have other inflation measures, I scarcely need inform you that these estimates were more than a tad understated. Perhaps the secular trends are easier to spot. Many barometers are temporarily volatile but persistent over the long haul. Since 1990, for example, yearly real gross domestic product growth within the United States has spanned from a high of 5.7% to a low of negative 3.4%. But the 10-year annualized rates have landed in a much narrower range, almost always between 1.5% and 3.5%. Guess 2% for the next decade (as recent results have been somewhat lower), and you will likely place very near the truth. It may be that 10-year inflation rates are similarly foreseeable. The most logical method for forecasting the next decade’s level of inflation is the “breakeven rate,” which subtracts the yield on 10-year Treasury Inflation-Protected Securities from the yield of 10-year Treasury notes. Because TIPS add the effect of inflation into their payments, that gap can be regarded as an estimate of future inflation. Unfortunately, reliable data on the TIPS breakeven rate begins only in 2003. (The investment debuted in 1997, but its early values fluctuated sharply, as investors struggled to price the newfangled securities). That limits the potential evaluation period to a mere nine years, from 2003 through 2012—too short for drawing a useful verdict. Other approaches must instead be sought. Three methods deserve consideration. Each possesses a public track record that extends for several decades, thereby permitting a sufficiently long test. 1) 10-year Treasury yields. “The marketplace solution.” At least in theory, Treasury prices look forward, not backward, so that today’s payouts anticipate tomorrow’s inflation. Presumably, however, Treasuries also deliver a real gain—that is, return above the inflation rate. Therefore, in addition to evaluating a) untouched 10-year Treasury yields, I also assessed b) adjusted yields that removed the note’s after-inflation profit. 2) Trailing inflation. “The economic angle.” Rather than depend upon the collective views of the marketplace, as with 10-year Treasury yields, the signal of trailing 10-year inflation relies solely on a demonstrated fact. True, conditions change, so that inflation is higher during some eras than others, but that process takes time. The inflation rate for one decade may thus be a suitable guide for the next. 3) Cleveland Fed prediction. “The expert opinion.” Since 1982, the Cleveland Federal Reserve Bank has regularly published 10-year inflation forecasts, updated monthly. The following chart plots the monthly difference between a) each of the four inflation predictors (counting both versions of the 10-year Treasury yield) and b) the next decade’s annualized inflation rate, as measured by the Consumer Price Index. The study runs from January 1982 through September 2012. The difference in monthly values between what four predictors of inflation showed and what the next 10 years' inflation rate actually was, from January 1982 through September 2012. The weakest signal, by a wide margin, was untouched Treasury yields. That was appropriate; otherwise, Treasuries would have been unprofitable in real terms. Next came the red line of the adjusted Treasury yields. That outcome surprised me; I would have expected the marketplace to be more accurate than the historic inflation rate. But investors strongly overestimated the strength of future inflation at the study’s beginning, then underestimated it at the end. Best of all was the Cleveland Fed’s forecast, on account of its temperance. In January 1982, Cleveland’s officials defied the prevailing sentiment by estimating a relatively modest future inflation rate of 6.2%. That still exceeded the future rate, but by much less than the other predictions, as at the time 10-year Treasuries yielded 14.6% (!), while the previous decade’s inflation rate was 8.6%. Here are the summary statistics for each approach. The difference in average monthly values between what four predictors of inflation showed and what the next 10 years' inflation rate actually was, from January 1982 through September 2012. Let’s see what the three approaches (I jettisoned the fourth measure of the untouched Treasury yield) now testify. Given its superior track record, the forecast from the Cleveland Fed will carry the most weight, but if both the marketplace and past inflation strongly disagree with that team’s estimate, that counterevidence is worth considering. After all, while Cleveland’s declarations have been the best of the bunch, they have not been perfect. The current predictions for three methods of forecasting the future inflation rate, as measured by the Consumer Price Index. The projections certainly are heartening. Cleveland’s staffers are unimpressed by recent events. Meanwhile, trailing 10-year inflation remains low, as it remains relatively unaffected by the past year’s crease. And when adjusted to reflect their customary real interest rate, 10-year Treasury notes don’t expect inflation at all. Over the past 40 years, 10-year Treasuries have produced 3.89 annual percentage points of real return. At Friday’s close, their yield was virtually the same, at 3.88%. To be sure, 3.89 was not the intended real return; Treasury notes delivered that amount by accident, courtesy of investors’ mistakes during the 1980s. An annual after-inflation profit of 1-2 percentage points would have sufficed. Even that figure, though, implies a low forecast of future inflation from 10-year Treasuries—somewhere quite near both the Cleveland Fed’s projection and the signal provided by the trailing 10-year inflation rate. Even a 30-year horizon, as used in this column’s discussion, is distressingly short for evaluating the effectiveness of a decade-long indicator. After all, the data contain only three independent periods. But between the fact that the Cleveland Fed’s previous predictions have been fairly accurate, and that the other two indicators closely match its signal, we can I think be reasonably confident that long-term inflation will be milder than many investors now believe.

More sophisticated evaders argue that inflation is confined to a few product lines: goods, up 12.9% for the 12 months ending in April 2022, rather than services, up just 5.4% (still the highest in over 30 years); energy, up 30.2%, led by gasoline, up 43.6%; used cars, up 22.7%. Used car prices, which have decelerated in recent months, were on a tear because a shortage of semiconductors is dragging down new car production, increasing demand for the previously owned variety. Food prices are up 9.4% — barely under double digits, but the biggest yearly rise since 1981. There are several problems with this “narrowly confined” claim. One is that food and energy are essential items, accounting for about 20% of the average household’s spending, and rather hard to cut back on. Another is that so-called core inflation, which excludes food and energy because their prices can be volatile and may obscure underlying trends, was 6.1% for the year ending in April, a rate unseen since 1982. And yet another is that price indexes put out by the Federal Reserve banks of Cleveland and New York, which strip out extreme price changes of just the sort that the “narrowly confined” partisans are pointing to, are rising as well. Inflation is real. Where’s it coming from? Some liberal and left pundits are attributing inflation to monopolistic price gouging. As Robert Reich, Bill Clinton’s labor secretary, wrote recently: If markets were competitive, companies would keep their prices down in order to prevent competitors from grabbing away customers. But they’re raising prices even as they rake in record profits. How can this be? They have so much market power they can raise prices with impunity. Viewed this way, the underlying problem isn’t inflation per se. It’s lack of competition. Corporations are using the excuse of inflation to raise prices and make fatter profits. The problem with this explanation is that market concentration hasn’t changed from 2019, when inflation was well under 2%. If corporations could raise prices with “impunity,” why didn’t they then? And what exactly is this “inflation” that they’re using as an excuse? A preexisting specter roaming about all on its own? Besides, “record profits” are very routine. US corporations have made record profits in over 40% of the quarters since 1947, excluding recessions. This isn’t a serious explanation. Josh Bivens, research director of the Economic Policy Institute, made a more sophisticated version of the profits argument than Reich, contending that profits’ contribution to rising corporate costs has been high relative to historical averages, and labor costs low. This is true, but it’s also not unusual behavior for the first six quarters after the end of a recession. And it doesn’t explain why firms didn’t spend the previous 40 years boosting profits by raising prices. Again, what is this preexisting inflation that firms are taking advantage of? Inflation is complicated, but there’s a simple thing you can say about the current version: immense amounts of purchasing power were injected into an economy that was stretched to the limit. Pandemic support payments amounted to over a trillion dollars — crucial support that kept scores of millions from destitution, but it came as COVID-19 was wreaking havoc on production. The pandemic took millions of workers off the job, and precautions shut down factories and ports. That threw global supply chains — a phrase that has sadly moved from the business press into daily conversation over the last year — into chaos, rendering it difficult to buy goods like cars and appliances, which are assembled from components produced all over the world. Readers of the monthly reports of the Institute for Supply Management’s survey of purchasing managers have been treated to two years of complaints about the impossibility of acquiring basic industrial supplies. Some highlights: “Business is robust, but logistics and supply cannot keep up.” “The current electronics/semiconductor shortage is having tremendous impacts on lead times and pricing. Additionally, there appears to be a general inflation of prices across most, if not all, supply lines.” “Lots of work on the floor, but I am worried about getting the materials to support.” “In 35 years of purchasing, I’ve never seen everything like these extended lead times and rising prices.” There was no cushion from inventories, thanks to the fashion for keeping only the smallest stocks on hand, to minimize the costs of idle capital. Add to that years of corporate underinvestment — much better to shower the shareholders with cash than invest in productive equipment — as well as neglect of public infrastructure, and you get the price chaos we’re living in.

Investors got some good inflation news after one popular measure of U.S. consumer prices increased less than expected in April. The Labor Department reported the consumer price index (CPI) rose 4.9% in April, down from 5% in March. On a monthly basis, the CPI was up 0.4% compared to March. The last time CPI inflation was below 5% was June 2021. The April CPI reading is only the latest indicator that U.S. inflation is falling, which may allow the Federal Reserve to pause its campaign of rate increases. The April CPI reading continued the positive inflation trend after year-over-year CPI inflation pulled back from 6% in February to 5% in March. Core inflation, which excluded volatile food and energy prices, was up 0.4% on a monthly basis and 5.5% from a year ago. Economists had expected annual core CPI inflation of 5.5% in April. Food prices were flat month-over-month and up 7.7% compared to a year ago. Energy prices were up 0.6% on a monthly basis and are down 5.1% over the past 12 months. Used car prices were up 4.4% compared to March and down 6.6% compared to April 2022. The latest CPI numbers come after the Labor Department reported the U.S. economy added 253,000 jobs in April, exceeding economist expectations of 180,000 new jobs. The Labor Department reported U.S. wages were up 4.4% year-over-year in April, while the unemployment rate dropped to a 50-year low of 3.4%. The April CPI reading is yet another positive datapoint for Americans hoping price deceleration has begun to pick up steam following a U.S. regional banking crisis in March and April that tightened credit markets. U.S. GDP growth also slowed to just 1.1% in the first quarter. In late April, the Commerce Department reported the core personal consumption expenditures (PCE) price index was up 4.6% in March, a slightly slower pace than its 4.7% year-over-year gain in February. Core PCE is the Federal Reserve’s preferred inflation measure. Inflation has been the Fed’s economic enemy number one since early 2022, and the Federal Open Market Committee has made aggressive changes to U.S. monetary policy in an attempt to bring inflation down toward its long-term target of just 2%. In May, the FOMC raised its target fed funds interest rate by 25 basis points (bps), its tenth consecutive interest rate hike. Since March 2022, the Fed has raised its target fed funds rate by 5%, to its current range of between 5% and 5.25%. The Fed hinted that it could pause its rate hikes at its upcoming meeting on June 13-14. The April CPI numbers likely ensure a Fed pause is a real possibility in June. According to CME Group, markets are currently pricing in an 80.4% chance the Fed will maintain its current target rate range in June and just a 19.6% chance of another rate hike. The market is also pricing in a 59.1% chance the FOMC will pivot to rate cuts by September. Quincy Krosby, chief global strategist for LPL Financial, says the April CPI report is a relief to investors. “Today’s report suggests that the Fed’s campaign to quell inflation is working, albeit more slowly than they would like,” Krosby says. The Fed is raising interest rates aggressively to bring down inflation but also trying not to spark a U.S. recession. Rising interest rates increase borrowing costs for companies and consumers, weighing on economic activity. Up to now, the U.S. labor market has been solid. However, S&P 500 earnings are down 2.2% year-over-year in the first quarter, and Wall Street is concerned the economy may not take spiking interest rates in stride. Krosby anticipates inflation will continue to fall in May. “Expectations are that rent-related inflation will indicate definitive signs of easing, helping to push overall headline inflation lower,” she says. Brad McMillan, chief investment officer for Commonwealth Financial Network, says economic data from April was generally positive for investors. “While we face risks, with the debt ceiling at the top of the list, the solid results from April mean the prospects for the rest of the year continue to look good,” McMillan says. “That is the bottom line here: while we do have headwinds, the current economic slowdown and adjustment in interest rates could put the economy and markets in a better place.”

Inflation data set to be released by the Bureau of Labor Statistics on Tuesday will be a critical economic indicator ahead of the Federal Reserve's monetary policy decision later this week. According to Bloomberg consensus estimates, May's Consumer Price Index (CPI) is expected to reveal headline inflation rose 0.2% over last month and 4.1% over the prior year, a slowdown from April's 0.4% month-over-month increase and 4.9% annual gain. On a "core" basis, which strips out the more volatile costs of food and gas, prices in May are expected to have climbed 0.4% over the prior month and 5.2% over last year. A 4.1% jump in headline inflation would be the slowest annual increase since April 2021, but would still be significantly above the Federal Reserve's 2% target. The Fed has been raising interest rates to try to bring down inflation, but the central bank risks sending the economy into a recession by hiking rates too high too fast. The Fed has signaled it could pause its hikes, saying it would continue to assess incoming data ahead of the June meeting. Tuesday's CPI print will be the last piece of data following a strong May jobs report, coupled with resilient readings on both the services and manufacturing sectors. Markets on Monday were pricing in a roughly 75% chance the Federal Reserve keeps rates unchanged in June, according to data from the CME Group. The Fed raised interest rates at each of its previous 10 meetings. "It is hard to overstate the importance of the May CPI print for the June FOMC decision the following day, with markets highly sensitive to either upside or downside surprises," Citi Research wrote in a note to clients. "For the actual Fed decision, the month-on-month change in core CPI will be the key figure to watch." Citi warned investors, "A 0.4% MoM increase in line with our forecast (0.37% unrounded) would be strong enough to tip the scales for Fed officials towards a hike (although market pricing would still be unlikely to fully price a hike)." Bank of America said used car prices are a key driver behind its forecast for a strong core CPI print. The bank said it expects used car prices to rise 2.7% month-over-month, following a 4.4% increase in April. Wells Fargo, meanwhile, said it does not anticipate the Fed to raise rates at the conclusion of this week's meeting. However, the banks said it does expect the Fed to make clear "another hike at its July 26 meeting remains a distinct possibility." Oxford Economics agreed, with lead US economist Michael Pearce writing in a note on Friday that "there is little in the incoming data to suggest the Fed will not follow through on the clear guidance for a pause at next week's Federal Open Market Committee meeting." "Even if the core [inflation] number comes in hot, Fed officials are paying more attention to the trend, which is likely to be downward over the second half as base effects work in their favor," Pearce added.

If this week's inflation data is any indication, the end of rate hikes might be within sight. The Consumer Price Index, a key inflation gauge, up 4.9% from a year ago. That's just a touch lower than March's 5% figure. And the Producer Price Index, that PPI, as you note in your hood, which the Fed prefers, rose 2.3% on an annual basis, below estimates and the slowest annual increase since January of 2021. Now, markets, they are pricing an 84.7% chance of a pause in June as of this morning. That's down slightly from the day prior. With one month to go until the Fed's next meeting, our next guest is keeping the bullish sentiment in the near term, raising its target on the S&P 500.

The Federal Reserve raised interest rates for the 10th consecutive meeting Wednesday but signaled those hikes might be done — thanks in part to jitters in the banking system. Federal Reserve Chairman Jerome Powell said a pullback in bank lending would slow an economy that the central bank was already trying to cool as part of a broader effort to slow high inflation. The central bank expects banks to be more conservative in lending to households and businesses after the failures of three of the nation’s 30 largest banks (Silicon Valley Bank, Signature Bank and First Republic Bank) in just the last two months. “In principle, we won’t have to raise rates quite as high as we would have had this not happened,” Powell told reporters Wednesday after the board raised interest rates by 0.25%, to a target range of 5.00% to 5.25%. Powell added that the Fed "may not be far off, or possibility even at," the level where it may not have to raise rates further. First Republic Bank, which fell into the hands of the government and JPMorgan Chase early Monday, underscored the concerns in the banking industry over more failures. Bloomberg reported Wednesday afternoon that Los Angeles-based PacWest Bancorp is weighing “strategic options,” including a sale. Powell said there is no quantifiable measure of the impact of the banking sector concerns. But Wall Street firms say a substantial pullback in bank lending could be equivalent to another few rate hikes. Deutsche Bank Research said before Wednesday that a sizable contraction in commercial and industrial bank lending could be the same as a 0.50% or 0.75% increase in the Fed’s target rate. Since March 2022, the Fed has been raising interest rates to tame high inflation. The actions led to substantial spikes in mortgage rates, auto loan rates and small-business loan rates as part of a broader Fed effort to slow lending and, by extension, spending. The process has yielded some success; the yearly pace of inflation peaked at 9% in June 2022 but clocked in at 5% in March. But the Fed, with a 2% inflation target, says it needs to keep rates at least elevated to finish the job. Although they are helpful to the Fed’s mission to lower inflation, the tremors in the banking system add the risk of financial instability to an already uncertain economic outlook. “Credit conditions risks will naturally raise questions about recession,” Deutsche Bank wrote April 28. Powell said the U.S. banking sector looks “sound and resilient.” Asked about the odds of a recession, he said he was optimistic. “The case of avoiding a recession is in my view more likely than that of having a recession,” Powell told reporters Wednesday.

Most of the Federal Reserve’s interest rate hikes may be in the rearview mirror. The question now: How many more do officials have left? After spending last year raising interest rates at a speed unmatched since the 1980s, Fed policymakers are taking a different approach in 2023: hiking interest rates at a slower and more deliberate pace. U.S. central bankers have raised interest rates by a quarter of a percentage point — the more traditional amount, at least historically speaking — at every meeting so far this year. The Fed’s benchmark rate is now in a target range of 5-5.25 percent, the highest in nearly 16 years. But those smaller moves haven’t been without bumps in the road — and staying focused on fighting inflation hasn’t been easy. Three major bank failures rocked financial markets throughout the first half of the year, creating stability concerns and amplifying fears of a full-fledged banking crisis. Experts say those bank failures are unlike what happened during the 2008 financial crisis but highlight just how many cracks in an otherwise-sound system can form when inflation — and interest rates — soar much higher and faster than anyone could’ve predicted. Fed officials are now signaling they might not hike rates much more, given uncertainty about the outlook. The majority of policymakers on the Federal Open Market Committee (FOMC) penciled in 5-5.25 percent as where interest rates will peak, suggesting the Fed could be about done raising rates. Fed Chair Jerome Powell, however, stopped short of committing to a pause, while other Fed officials aren’t so certain. How many more rate hikes the Fed has left depends on incoming data surrounding inflation and employment, as well as how much turmoil among regional banks could slow the economy. “We may not be far off,” Powell said at the May meeting press conference, referring to the Fed’s peak interest rate. “We’re possibly even at that level. … We will make that determination meeting by meeting, based on the totality of incoming data and their implications for the outlook for economic activity and inflation.” The collapse of Silicon Valley Bank, Signature Bank and now First Republic earlier this month shows the Fed has new concerns to manage simultaneously: financial stability and price stability. Inflation is improving. Consumer prices rose 4.9 percent in April from a year ago — down more than 4 percentage points from its June peak of 9.1 percent. That’s still nearly two and a half times the Fed’s preferred 2 percent inflation target. Powell repeated in May that those hot prices are underscoring the need for monetary policy to remain tight.

The Federal Reserve is taking a break from a rapid stretch of rate hikes as it approaches a critical crossroads in its battle with inflation. The Fed’s rate-setting committee announced Wednesday it would keep its baseline interest rate range unchanged for the first time since January 2022. The Fed funds rate range will remain at 5 to 5.25 percent, the highest level since 2008. “Holding the target range steady at this meeting allows the Committee to assess additional information and its implications for monetary policy,” the Federal Open Market Committee (FOMC) said in a statement. As inflation reached four-decade highs last summer, the Fed rapidly boosted rates to snuff out rapid price growth and cool off a historically strong job market. Higher interest rates tend to slow the economy and sap consumer demand, two of several forces behind inflation. With inflation plunging toward the Fed’s target and the economy showing signs of slowing, the central bank is now taking a step back. The annual inflation rate is down 4 percent from 9.1 percent in June 2022, as measured by the Labor Department’s consumer price index. Economic growth has also cooled off, and several interest rate-sensitive industries, such as real estate and technology, have taken serious hits from higher borrowing costs. “The inflation data supports the notion of at least a pause in the Federal Reserve’s rate hike campaign as it tries to push inflation back toward its long-term target of 2 percent,” wrote Joe Brusuelas, chief economist at audit and tax firm RSM, in a Tuesday analysis. These early signs have given Fed officials comfort to hold off on another rate hike, especially since higher borrowing costs can take months — if not years — to make their full impact. Even so, the job market has largely shaken off rate hikes meant to weaken it, and inflation is still roughly twice the Fed’s annual target. The resilience of the labor market and the stubbornness of inflation in some sectors have left the central bank on guard and unlikely to rest on its laurels. “While we note that getting inflation from 9.1 perent to 4 percent will be easier than driving it down from 4 percent to 3 perent and then 3 percent to 2 percent, it is important to note that the direction and pipeline pressure inside the service sector are all moving in the right direction. And that is something to celebrate,” Brusuelas wrote. While the Fed may be moving toward its long-sought victory against inflation, the next few months pose a gantlet for central bankers.

The Federal Reserve made no change in the target range for its benchmark interest rate on Wednesday but suggested changes are coming later this year. The fed funds rate was kept unchanged in a range of 5%-5.25% on Wednesday, the Fed's first pause in over a year as the central bank works to quell inflation. Along with its policy announcement, the Fed also released updated economic forecasts in its Summary of Economic Projections (SEP), including its "dot plot," which maps out policymakers' expectations for where interest rates could be headed in the future. And the latest dot plot suggests rates will continue to tick higher in 2023. Fed officials now see the fed funds rate peaking at 5.6% this year, higher than the Fed's previous March projection of 5.1%. This suggests the Fed will likely raise rates by 0.25% two more times this year (or raise rates by 0.50% in one shot). Three officials see at least 0.75% worth of additional tightening this year. No officials expect to see rate cuts this year. Fed officials now see interest rates coming down to 4.6% in 2024, higher than March's outlook for rates to finish next year at 4.3%. This month's expectations for rates next year were also less widely distributed compared to March's projections. The SEP indicated the Federal Reserve sees core inflation peaking at 3.9% this year — higher than March's projection of 3.6% — before cooling to 2.6% next year and 2.2% in 2025. Officials see unemployment rising to 4.1% this year, well below the previous 4.5% forecast. Unemployment is expected to tick slightly higher to 4.5% next year and remain at that level through 2025. The Fed also sees slightly stronger economic growth, with the economy forecast to grow 1% this year — up from March's 0.4% projection — before picking up slightly to 1.1% in 2024 and 1.8% in 2025.

The end of the Fed’s tightening campaign now seems in sight, if it hasn’t already arrived. The central bank’s policy makers on Wednesday left their target on overnight rates steady at a range of 5% to 5.25%—the first time they didn’t raise rates at the conclusion of a policy-setting meeting since January last year. They did indicate that they expect to raise rates by another half percentage point by the end of the year, more than many expected. But if the next inflation report shows signs of further cooling, even that could be in doubt. Yet Fed officials don’t think they will soon be bringing rates much lower than they are now, either, with their projections now showing they expect the rate range will be 4.5% to 4.75% at the end of next year. And investors are starting to recognize that this higher-for-longer expectation might come true. When the Fed has raised rates in the past, it has often hiked them to the point where the job market cracks, plunging the economy into a recession that leads the central bank to quickly reverse course and cut rates sharply. Investors had been figuring that would be the pattern this time around: At one point in March, shortly after Silicon Valley Bank and Signature Bank collapsed, interest-rate futures implied an expectation that the central bank would lower its rate target to a range of 3.75% to 4%, or lower, by the end of this year, a contrast to current expectations that are roughly split between the Fed holding rates steady and raising them by a quarter point. But although the job market has loosened a bit, it still looks quite healthy, with unemployment low and plenty of job vacancies waiting to be filled. As long as that is true, even if inflation cooled substantially, policy makers wouldn’t see much point in cutting. Now interest-rate futures imply that the Fed’s target range will finish out the year around where it is now. This shift in expectations is having an effect on long-term interest rates, too. The yield on the 10-year Treasury, which in theory largely reflects investors’ short-term rate expectations over the next decade, has lately been pushing higher faster than the yield on the 3-month Treasury. If inflation does, in fact, keep cooling, and the job market remains in good shape, then that is a trend that will continue, and might even lead to a point where long-term yields are higher than short-term ones—not, as is usually the case when the yield curve un-inverts, because a recession has hit, but because one has been avoided. This would, of course, be great news for the economy. But for investors, being stuck in a higher-for-longer rate regime would be a bit more complicated.

The Federal Reserve’s decision to hold rates steady signals that central bankers believe it is time to hit pause, at least temporarily, on their aggressive campaign to tame runaway inflation. The latest data, not to mention several other factors, however, suggests it’s time for a full stop. On June 14, 2023, the Fed chose not to lift rates for the first time in 11 meetings, leaving its target interest rate – a benchmark for borrowing costs across the global economy – at a range of 5% to 5.25%. Over 10 consecutive hikes beginning in March 2022, the Fed had raised rates a whopping 5 percentage points. “Holding the target range steady at this meeting allows the committee to assess additional information and its implications for monetary policy,” the central bank said in a statement. The Fed indicated it still expects to raise rates two more times by the end of the year. As an economist who follows the central bank’s actions closely, I believe there’s good reason to think the Fed’s brief hiatus is likely to turn into a permanent vacation. The fastest rate of inflation since the 1980s is what prompted the Fed to hike interest rates so much. So it makes sense that inflation would be a key indicator of when its job is complete. The latest consumer price index data, released on June 13, showed core inflation – the Fed’s preferred measure, which excludes volatile food and energy prices – falling to an annual rate of 5.3% in May 2023, the slowest pace since November 2021. That’s down from a peak of 6.6% in September 2022. While the data shows inflation remains well above the Fed’s target of around 2%, there’s good reason to believe that it will continue to fall regardless of what the Fed does. Shelter, a measure of the cost of owning or renting a home, is the largest component of the consumer price index, accounting for more than one-third of the total. In its latest report, the Bureau of Labor Statistics reported shelter costs rose 8% from a year ago. After stripping that out, inflation was up just 2.1%. The thing is, the data reported by the bureau doesn’t reflect the reality of what’s happening in the current housing market. The Bureau of Labor Statistics relies on a survey that gauges rental prices from 50,000 leases, many of which were signed during the rental bubble in 2021 and 2022. A better measure of current market rents is the Zillow Observed Rent Index. That index suggests rates are declining – rents rose 4.8% year over year in May, aligning with pre-pandemic rates. Comparing the two measures suggests the official consumer price index data lags behind the market by four to six months. Using current rents would put inflation much closer to where the Fed wants it to be. Jason Furman, former chair of the government’s Council of Economic Advisors, created a modified version of core inflation – which uses a market-based measure of shelter prices – at 2.6%. Moreover, it is likely that further rate hikes will do more harm than good – particularly to the banking sector – and without helping lower inflation below its current trajectory. Several regional lenders, including Silicon Valley Bank and First Republic, collapsed earlier this year following bank runs. Combined, they had over a half-trillion dollars in assets. While there were several factors behind the banks’ demise, an important one was the Fed’s aggressive rate hikes, which caused the value of many of their assets to fall. The banks catered to depositors with accounts that exceeded the US$250,000 threshold protected by the Federal Deposit Insurance Corporation. These depositors ran for the hills when they learned about the extent of the bank losses. This turmoil, in tandem with higher rates, is also cooling business activity. This means the Fed doesn’t need to go as high on rates as it otherwise would have. Further troubles loom over the banking sector. In recent days, notable figures in the finance industry, such as Goldman Sachs CEO David Solomon and former U.S. Treasury Secretary Larry Summers, have warned that nearly $1.5 trillion in commercial real estate loans will require refinancing over the next three years. The combination of already high interest rates and low office occupancy rates will likely force banks to absorb hundreds of billions of dollars in loan losses, inevitably putting more banks on the brink of failure. And if the Fed keeps raising rates, the situation is likely to get a lot worse. The Fed was behind the curve in 2021 and 2022 in realizing inflation was getting out of control, and it has been historically slow in recognizing the impact of rental rates on inflation. The June pause in raising rates should give the Fed time to take a break, look at the data and, I hope, realize inflation is closer to its target than it appears. But if it continues to raise rates, I believe the central bank will be repeating the same mistakes it made in the past.

The most important day-to-day lever that policymakers use to adjust the economy’s level of aggregate demand is monetary policy—the decisions made by the Federal Reserve about the level of interest rates. When the Fed cuts rates, this can potentially spur aggregate demand by inducing businesses and households to borrow more for investment and consumption (though, as we note below, the effect of monetary policy is quite asymmetric, with interest rate cuts providing only a weak boost to growth while interest rate increases reliably slow growth). Conversely, when the Fed raises rates, it reduces aggregate demand by making this borrowing more expensive. The key virtue of monetary policy actions is that the Federal Open Market Committee (FOMC)—the body that changes interest rates—is a much faster-moving entity than the U.S. Congress and the executive branch, who together control fiscal policy decisions. Perhaps surprisingly, the importance of monetary policy is not primarily due to its being a particularly effective job-creation mechanism when aggregate demand is slack. In fact, interest rate cuts have a hard time gaining purchase on a slack economy; the metaphor describing this is that rate cuts that induce, but cannot compel, businesses and households to spend more are like “pushing on a string.” But interest rate increases are extremely effective in slowing aggregate demand growth. One can obviously pull on a string with decent effect. This means that when it comes to spurring economic growth, the Fed’s key role is intentional inaction on interest rates. By not raising rates, they allow the economy’s growth to continue unabated. In times when this growth is too slow, this obviously provides very little boost. But during times when this growth has been healthy (as in the late 1990s), Fed forbearance on raising rates has allowed for rapid growth. Because monetary policy can effectively slow growth, and because the Fed is autonomous and fast-moving relative to other policymakers, the Fed essentially has veto power over efforts to spur aggregate demand growth through other policy changes. If, for example, Congress and the president passed a large package of tax cuts and spending increases to boost the economy, but the Fed thought the economy had already reached full employment or that such fiscal moves threatened to raise inflation, the Fed could block the effects of these tax cuts and spending increases with interest rate hikes. They have certainly done so in the past, most notably in the early 1980s. What this means in today’s economy is simply that the Federal Reserve controls the economy’s brake. Unless they can be convinced to stay off this brake until the economy hits genuine full employment, any job-creation strategy is likely to fail as a way to actually boost the overall stock of jobs available in the economy. This means that those worried about American labor market health must wrestle seriously with the power of the Fed to short-circuit job creation and engage the fight to convince the Fed to aggressively pursue full employment by holding off on rate increases before wage and price inflation make them absolutely necessary.

Continual warfare in the Middle East, a nuclear Iran, electromagnetic-pulse weapons, emerging pathogens, and terrorism involving weapons of mass destruction variously threaten the United States, some with catastrophe on a scale we have not experienced since the Civil War. Nevertheless, these are phenomena that bloom and fade, and that, with redirection and augmentation of resources we possess, we are equipped to face, given the wit and will to do so. But underlying the surface chaos that dominates the news cycle are the currents that lead to world war. In governance by tweet, these are insufficiently addressed for being insufficiently immediate. And yet, more than anything else, how we approach the strength of the American military, the nuclear calculus, China, and Russia will determine the security, prosperity, honor, and at long range even the sovereignty and existence of this country. Upon our will to provide for defense, all else rests. Without it, even the most brilliant innovations and trenchant strategies will not suffice. In one form or another, the American way of war and of the deterrence of war has always been reliance on surplus. Even as we barely survived the winter of Valley Forge, we enjoyed immense and forgiving strategic depth, the 3,000-mile barrier of the Atlantic, and the great forests that would later give birth to the Navy. In the Civil War, the North’s burgeoning industrial and demographic powers meshed with the infancy of America’s technological ascendance to presage superiority in mass industrial — and then scientific — 20th-century warfare. The way we fight is that we do not stint. Subtract the monumental preparations, cripple the defense industrial base, and we will fail to deter wars that we will then go on to lose.

Inflation is a persistent problem and in addition to making groceries and gas more expensive, it has also been affecting the Pentagon. A new report from the National Defense Industrial Association, “How Inflation Hurts America’s National Defense And What We Can Do About It,” lays out how inflation has continued to affect the defense industry. “The Department of Defense (DoD) is dealing with significant inflation for the first time in 40 years. As detailed in this report, the DoD is particularly vulnerable to sudden inflation because of its lengthy budget and acquisition process,” the report said. This has diminished the department’s purchasing power. “The first step is to understand both the breadth and seriousness of the challenge. This paper offers Congress and the American people an explanation of the problem and a detailed estimate of inflation impacts,” the report says. “The second step requires taking action. We provide recommendations to mitigate the damage where possible in the relevant sections of this paper.” The authors are former Secretary of the Army Dr. John E. Whitley, National Defense Industrial Association (NDIA) CEO David L. Norquist, and NDIA inflation task force head Lisa S. Disbrow. As Reuters noted, the Pentagon will need an extra $42 billion in the next fiscal year in order to deal with inflation. Other recommendations include Congress adjusting its next continuing resolution for inflation, stabilizing acquisition programs, and enhancing data reporting. “All Americans are feeling the impact of the current high rate of inflation. Inflation is particularly disruptive to our national defense because the long budget and acquisition processes DoD uses prevents timely adjustments for inflation. Absent relief, it will undermine the readiness of our forces, the quality of life for our service members, and the timely deployment of modern weapon systems to our warfighters. The primary impact of inflation is loss of buying power, which can be divided into two key challenges: Future Budget Challenges and the Current Execution Crisis.” The report is written with the assumption that inflation has already peaked, will “decline to normal levels during the end of Fiscal Year (FY) 2024,” and that Congress will “fund future budgets for FY 2024 and beyond to a topline that finishes correcting for actual FY 2021, FY 2022, and FY 2023 inflation.” “This significant financial cut to the DIB [Defense Industrial Base] arrives on the heels of the COVID-19 pandemic and supply chain challenges, adding significant risk to defense modernization as a hedge against potential near-peer conflict. Because it is easier and faster to adjust prices in the private sector, if the impact of inflation on contracts is not addressed, firms that have a choice may exit the defense industrial base for the commercial markets and reducing competition and diversity in the DIB,” the report concluded.

Government support was vital to help people and firms survive pandemic lockdowns and support the economic recovery. But where inflation is high and persistent, across-the-board fiscal support is not warranted. Most governments have already dialed back pandemic support, as noted in our October Fiscal Monitor. With many people still struggling, governments should continue to prioritize helping the most vulnerable to cope with soaring food and energy bills and cover other costs—but governments should also avoid adding to aggregate demand that risks dialing up inflation. In many advanced and emerging economies, fiscal restraint can lower inflation while reducing debt. Central banks are raising interest rates to dampen demand and contain inflation, which in many countries is at its highest levels since the 1980s. Because rapid price gains are costly to society and detrimental to stable economic growth, monetary policy must act decisively. While monetary policy has the tools to subdue inflation, fiscal policy can put the economy on a sounder long-term footing through investment in infrastructure, health care, and education; fair distribution of incomes and opportunities through an equitable tax and transfer system; and provision of basic public services. The overall fiscal balance, however, affects the demand for goods and services, and inflationary pressures. A smaller deficit cools aggregate demand and inflation, so the central bank doesn’t need to raise rates as much. Moreover, with global financial conditions constraining budgets, and public debt ratios above pre-pandemic levels, reducing deficits also addresses debt vulnerabilities. Conversely, fiscal stimulus in the current high inflation environment would force central banks to slam on the brakes harder to curb inflation. Amid elevated public and private sector debt, this may raise risks for the financial system, as our Global Financial Stability Report described in October. Against that backdrop, policymakers have a responsibility to provide strong protections to those in need, while paring back elsewhere or raising additional revenues to reduce the overall deficit. Fiscal responsibility—or even consolidation where needed—demonstrates that policymakers are aligned against inflation. When fiscal adjustment is sustained, ideally through a medium-term fiscal framework that sketches the direction of policy over the next few years, it also addresses looming pressures on debt sustainability. These include aging populations in most advanced and several emerging economies, and the need to rebuild buffers that can be deployed in future crises or economic downturns. In our research, we use a stylized two country model (where the “home economy” may be the US or a group of advanced economies). We study two different approaches to curb inflation. The first relies exclusively on monetary tightening to cool the overheating economy, whereas the second involves fiscal consolidation. Both are constructed to have similar effects on economic growth, and each is effective in reducing inflation. Under the first, higher interest rates and the weaker growth contribute to rising public debt. Meanwhile, the currency appreciates as higher yields attract investors. Under the second approach, fiscal tightening cools demand without the need for interest rates to rise, so the real exchange rate depreciates. And with lower debt-service costs and smaller primary deficits, public debt declines. The real exchange-rate appreciation under tighter monetary policy implies that inflation falls a bit more, but this difference would diminish if more countries pursued these policies. Faced with high food and energy prices, governments can improve their fiscal position by moving from broad-based support to assisting the most vulnerable—ideally, through targeted cash transfers. Because supply shocks are long-lasting, attempts to limit price increases through price controls, subsidies, or tax cuts will be costly to the budget and ultimately not be effective. Price signals are critical to promote energy conservation and encourage private investment in renewables. The desirable fiscal stance and measures underpinning it will depend on country-specific circumstances, including current inflation rates and longer-term considerations such as debt levels and developmental needs. In most countries, higher inflation strengthens the case for fiscal restraint, calling for raising revenue or prioritizing spending that preserves social protection and growth-enhancing investments in human or physical capital. In the United States, the early-1980s disinflation under Federal Reserve Chairman Paul Volcker exemplified the challenges of controlling inflation. Inflation had become entrenched at high levels, and fiscal policy was expansionary. The Fed had to raise rates sharply to rein in inflation, causing a collapse in housing investment and historically large appreciation of the dollar. Manufacturing was hard hit, leading to calls for trade protectionism. That historical episode is relevant for many countries facing similar challenges today. A more balanced removal of policy stimulus, including fiscal restraint, can reduce the risk that some parts of the economy—especially those most sensitive to interest rates—experience disproportionate effects, or that large swings in the currency heighten trade tensions. This would also reduce risk globally. Less abrupt interest rate hikes would imply a more gradual tightening of financial conditions and mitigate financial stability risks. This would tend to limit adverse spillovers to emerging market economies and reduce the risk of sovereign debt distress. Avoiding a sharp appreciation of the US dollar or other major currencies would also lessen pressures on emerging markets that borrow in those currencies. While many central banks are tightening policy in response to the large and persistent rise in global inflation, the policy mix matters. Fiscal restraint will reduce the cost of bringing inflation back to target in a timely way, compared with the alternative of leaving monetary policy alone to act.

The Federal Reserve’s decision Wednesday to leave interest rates alone for the first time in 11 meetings raises hopes that it may be at least nearing the end of its rate-hiking campaign to cool inflation. That said, the Fed’s policymakers indicated that they envision potentially two more hikes this year — a more hawkish forecast than had been expected. And even after the Fed has stopped hiking, it’s likely to keep borrowing rates at a peak for months to come. Consumers would still have to bear the weight of higher-cost auto loans, mortgages, credit cards and other forms of borrowing. Still, some people may feel encouraged by the possibility that loan rates might not rise much more. And in the meantime, people with savings accounts are enjoying higher yields than they have in years. Fortunately, that isn’t likely to change anytime soon. Though the Fed hasn’t likely reached the top of its rate-raising cycle, it’s getting closer. That doesn’t necessarily mean that relief is on the way, especially with the forecast of possibly two additional hikes this year. “Even once the Fed stops raising interest rates, borrowing rates are still very, very high,” said Greg McBride, Bankrate.com’s chief financial analyst. “Some of these rates are higher than many consumers have ever seen.” McBride noted that credit card rates, in particular, are at or near their all-time peaks, mortgage rates have more than doubled in two years and auto loan rates have reached their highest level in about a dozen years. Even if rates were to hold steady, borrowing costs across the economy will remain much higher than they were in recent years. Some consumers may struggle to continue making loan payments on time as they simultaneously face inflated prices for many goods and services. “That means debt repayment has taken on a renewed urgency,” McBride said. “If you have credit card debt, that is a top priority to get paid down.” Matt Schulz of LendingTree suggested that consumers who have debt should “assume that rates will continue to rise and focus on paying down their balances as quickly as possible,” to err on the safe side. Card users, he said, might consider asking their issuers to offer a lower Annual Percentage Rate (APR), if possible. In a recent report, LendingTree concluded that a majority of cardholders who had asked their card issuers for a lower rate received one. The average reduction was significant — 6 percentage points. “It is well worth your time to make that call,” Schulz said. Right now, the average APR on a new credit card offer is a towering 23.98%, according to LendingTree. “And they’re probably going to still creep higher in the immediate future,” Schulz said, even if the Fed doesn’t raise rates Wednesday. For a typical credit card already in use, the average APR was only slightly lower — 20.92% — according to the latest data from the Fed. Loan rates for new vehicles have stayed constant for the past few months, at an average of about 7%. That isn’t likely to change even with the Fed leaving rates alone for now, said Ivan Drury, senior manager at Edmunds.com. Auto loan rates, Drury said, tend to reflect buyer demand for vehicles more than they do the Fed’s interest rate decisions. Auto sales, while still way below pre-pandemic levels, remain fairly strong, automakers are selling at still-high prices and profits are solid. Unless sales were to slow, companies and dealers won’t likely reduce prices or offer subsidized loan rates. “Everyone seems too content,” Drury said. With loan rates probably unlikely either to rise or fall significantly anytime soon, buyers who need a vehicle may increasingly come off the sidelines. Autos are generally staying on dealer lots for only 35-40 days before being sold. Until they start sitting for 60 days or more, Drury said, automakers probably won’t cut prices. New vehicle prices averaged $47,892 in May, 1.3% below the peak in December. Yet any decline has been offset by costlier loan rates, which have surged nearly a half point over the same period. Prices for used vehicles also dropped somewhat last year but remain comparatively high. The national average in May was $29,387, down about 5% from the May 2022 peak but nearly $9,000 more than the average before the pandemic. (As of May, the average used-vehicle loan rate was about 11%.) “Make sure your credit is in tip-top shape, shop around for financing and have an offer in your back pocket before you go to the dealership,” said Bankrate’s McBride. Ken Tumin, a banking expert and founder of DepositAccounts.com, noted that while yields for savings accounts and certificates of deposit are the highest they’ve been in a decade, the pace of increases is slowing. With the Fed likely nearing the end of rate hiking, any further increases in yields may be comparatively small. “Banks will have reason to slow their deposit rate increases,” Tumin said. Still, it’s worth noting that these accounts are much more rewarding than they were as recently as a year ago. The average online savings account yield is now 3.98% — up from 3.31% at the start of this year and from 0.73% from a year ago, according to DepositAccounts.com. The average yield on an online one-year CD is 4.86%, up from 4.37% at the start of the year and from 1.49% a year ago. McBride suggested that consumers comparison-shop to find the best rates on high-yield savings accounts. He noted that online banks, in particular, are paying yields of 5% or better. “Savings rates are the highest we’ve seen since the financial crisis,” he said. “Banks that need deposits — like online banks — are competing aggressively by paying higher rates.” By contrast, McBride said, “brick-and-mortar banks, who have a surplus of deposits — their rates reflect that. They will intentionally have lower rates, and some of them have no intention of catching up.” Overall, he noted, consumers can enjoy savings rates that haven’t been this high in 15 years. “That’s not a bad place to have money parked,” said McBride. The Fed has clearly achieved progress. Inflation, which peaked above 9% last year, is less than half that level now. Yet the latest inflation readings remain well above the Fed’s 2% target. Many households are still feeling heavy financial pressure as a result. Reducing inflation back to the Fed’s target level will require more time. “That might mean the Fed is going to have to hold rates higher for longer, and it may even mean boosting rates further in the months ahead,” McBride said. The central bank has now raised rates at its fastest pace in 40 years. “That doesn’t mean the Fed is going to start cutting rates or that other rate hikes this year are completely out of the question,” said Jacob Channel, senior economist for LendingTree. “It just means they may be willing to hold rates where they are and let the economy continue to settle without more rate-related prodding in the immediate future.” If the economy does cool, Channel predicts that mortgage rates may end the year closer to 6% than to 7%. (The current national average for a 30-year fixed-rate mortgage is 6.71%, according to Freddie Mac.) “There’s a very significant cumulative impact (of rate hikes), but it doesn’t hit all right away,” McBride said. For the Fed to leave rates alone, at least for now, “gives them a little bit of time to evaluate the broader economic and inflationary landscape to see if further rate hikes are warranted.”

Various scholars and institutions regard global social instability as the greatest threat facing this decade. The catalyst has been postulated to be a Second Great Depression which, in turn, will have profound implications for global security and national integrity. This paper, written from a broad systems perspective, illustrates how emerging risks are getting more complex and intertwined; blurring boundaries between the economic, environmental, geopolitical, societal and technological taxonomy used by the World Economic Forum for its annual global risk forecasts. Tight couplings in our global systems have also enabled risks accrued in one area to snowball into a full-blown crisis elsewhere. The COVID-19 pandemic and its socioeconomic fallouts exemplify this systemic chain-reaction. Onceinexorable forces of globalization are rupturing as the current global system can no longer be sustained due to poor governance and runaway wealth fractionation. The coronavirus pandemic is also enabling Big Tech to expropriate the levers of governments and mass communications worldwide. This paper concludes by highlighting how this development poses a dilemma for security professionals. Key Words: Global Systems, Emergence, VUCA, COVID-9, Social Instability, Big Tech, Great Reset INTRODUCTION The new decade is witnessing rising volatility across global systems. Pick any random “system” today and chart out its trajectory: Are our education systems becoming more robust and affordable? What about food security? Are our healthcare systems improving? Are our pension systems sound? Wherever one looks, there are dark clouds gathering on a global horizon marked by volatility, uncertainty, complexity and ambiguity (VUCA). But what exactly is a global system? Our planet itself is an autonomous and selfsustaining mega-system, marked by periodic cycles and elemental vagaries. Human activities within however are not system isolates as our banking, utility, farming, healthcare and retail sectors etc. are increasingly entwined. Risks accrued in one system may cascade into an unforeseen crisis within and/or without (Choo, Smith & McCusker, 2007). Scholars call this phenomenon “emergence”; one where the behaviour of intersecting systems is determined by complex and largely invisible interactions at the substratum (Goldstein, 1999; Holland, 1998). The ongoing COVID-19 pandemic is a case in point. While experts remain divided over the source and morphology of the virus, the contagion has ramified into a global health crisis and supply chain nightmare. It is also tilting the geopolitical balance. China is the largest exporter of intermediate products, and had generated nearly 20% of global imports in 2015 alone (Cousin, 2020). The pharmaceutical sector is particularly vulnerable. Nearly “85% of medicines in the U.S. strategic national stockpile” sources components from China (Owens, 2020). An initial run on respiratory masks has now been eclipsed by rowdy queues at supermarkets and the bankruptcy of small businesses. The entire global population – save for major pockets such as Sweden, Belarus, Taiwan and Japan – have been subjected to cyclical lockdowns and quarantines. Never before in history have humans faced such a systemic, borderless calamity. COVID-19 represents a classic emergent crisis that necessitates real-time response and adaptivity in a real-time world, particularly since the global Just-in-Time (JIT) production and delivery system serves as both an enabler and vector for transboundary risks. From a systems thinking perspective, emerging risk management should therefore address a whole spectrum of activity across the economic, environmental, geopolitical, societal and technological (EEGST) taxonomy. Every emerging threat can be slotted into this taxonomy – a reason why it is used by the World Economic Forum (WEF) for its annual global risk exercises (Maavak, 2019a). As traditional forces of globalization unravel, security professionals should take cognizance of emerging threats through a systems thinking approach. METHODOLOGY An EEGST sectional breakdown was adopted to illustrate a sampling of extreme risks facing the world for the 2020-2030 decade. The transcendental quality of emerging risks, as outlined on Figure 1, below, was primarily informed by the following pillars of systems thinking (Rickards, 2020): • Diminishing diversity (or increasing homogeneity) of actors in the global system (Boli & Thomas, 1997; Meyer, 2000; Young et al, 2006); • Interconnections in the global system (Homer-Dixon et al, 2015; Lee & Preston, 2012); • Interactions of actors, events and components in the global system (Buldyrev et al, 2010; Bashan et al, 2013; Homer-Dixon et al, 2015); and • Adaptive qualities in particular systems (Bodin & Norberg, 2005; Scheffer et al, 2012) Since scholastic material on this topic remains somewhat inchoate, this paper buttresses many of its contentions through secondary (i.e. news/institutional) sources. ECONOMY According to Professor Stanislaw Drozdz (2018) of the Polish Academy of Sciences, “a global financial crash of a previously unprecedented scale is highly probable” by the mid- 2020s. This will lead to a trickle-down meltdown, impacting all areas of human activity. The economist John Mauldin (2018) similarly warns that the “2020s might be the worst decade in US history” and may lead to a Second Great Depression. Other forecasts are equally alarming. According to the International Institute of Finance, global debt may have surpassed $255 trillion by 2020 (IIF, 2019). Yet another study revealed that global debts and liabilities amounted to a staggering $2.5 quadrillion (Ausman, 2018). The reader should note that these figures were tabulated before the COVID-19 outbreak. The IMF singles out widening income inequality as the trigger for the next Great Depression (Georgieva, 2020). The wealthiest 1% now own more than twice as much wealth as 6.9 billion people (Coffey et al, 2020) and this chasm is widening with each passing month. COVID-19 had, in fact, boosted global billionaire wealth to an unprecedented $10.2 trillion by July 2020 (UBS-PWC, 2020). Global GDP, worth $88 trillion in 2019, may have contracted by 5.2% in 2020 (World Bank, 2020). As the Greek historian Plutarch warned in the 1st century AD: “An imbalance between rich and poor is the oldest and most fatal ailment of all republics” (Mauldin, 2014). The stability of a society, as Aristotle argued even earlier, depends on a robust middle element or middle class. At the rate the global middle class is facing catastrophic debt and unemployment levels, widespread social disaffection may morph into outright anarchy (Maavak, 2012; DCDC, 2007). Economic stressors, in transcendent VUCA fashion, may also induce radical geopolitical realignments. Bullions now carry more weight than NATO’s security guarantees in Eastern Europe. After Poland repatriated 100 tons of gold from the Bank of England in 2019, Slovakia, Serbia and Hungary quickly followed suit. According to former Slovak Premier Robert Fico, this erosion in regional trust was based on historical precedents – in particular the 1938 Munich Agreement which ceded Czechoslovakia’s Sudetenland to Nazi Germany. As Fico reiterated (Dudik & Tomek, 2019): “You can hardly trust even the closest allies after the Munich Agreement… I guarantee that if something happens, we won’t see a single gram of this (offshore-held) gold. Let’s do it (repatriation) as quickly as possible.” (Parenthesis added by author). President Aleksandar Vucic of Serbia (a non-NATO nation) justified his central bank’s gold-repatriation program by hinting at economic headwinds ahead: “We see in which direction the crisis in the world is moving” (Dudik & Tomek, 2019). Indeed, with two global Titanics – the United States and China – set on a collision course with a quadrillions-denominated iceberg in the middle, and a viral outbreak on its tip, the seismic ripples will be felt far, wide and for a considerable period. A reality check is nonetheless needed here: Can additional bullions realistically circumvallate the economies of 80 million plus peoples in these Eastern European nations, worth a collective $1.8 trillion by purchasing power parity? Gold however is a potent psychological symbol as it represents national sovereignty and economic reassurance in a potentially hyperinflationary world. The portents are clear: The current global economic system will be weakened by rising nationalism and autarkic demands. Much uncertainty remains ahead. Mauldin (2018) proposes the introduction of Old Testament-style debt jubilees to facilitate gradual national recoveries. The World Economic Forum, on the other hand, has long proposed a “Great Reset” by 2030; a socialist utopia where “you’ll own nothing and you’ll be happy” (WEF, 2016). In the final analysis, COVID-19 is not the root cause of the current global economic turmoil; it is merely an accelerant to a burning house of cards that was left smouldering since the 2008 Great Recession (Maavak, 2020a). We also see how the four main pillars of systems thinking (diversity, interconnectivity, interactivity and “adaptivity”) form the mise en scene in a VUCA decade. ENVIRONMENTAL What happens to the environment when our economies implode? Think of a debt-laden workforce at sensitive nuclear and chemical plants, along with a concomitant surge in industrial accidents? Economic stressors, workforce demoralization and rampant profiteering – rather than manmade climate change – arguably pose the biggest threats to the environment. In a WEF report, Buehler et al (2017) made the following pre-COVID-19 observation: The ILO estimates that the annual cost to the global economy from accidents and work-related diseases alone is a staggering $3 trillion. Moreover, a recent report suggests the world’s 3.2 billion workers are increasingly unwell, with the vast majority facing significant economic insecurity: 77% work in part-time, temporary, “vulnerable” or unpaid jobs. Shouldn’t this phenomenon be better categorized as a societal or economic risk rather than an environmental one? In line with the systems thinking approach, however, global risks can no longer be boxed into a taxonomical silo. Frazzled workforces may precipitate another Bhopal (1984), Chernobyl (1986), Deepwater Horizon (2010) or Flint water crisis (2014). These disasters were notably not the result of manmade climate change. Neither was the Fukushima nuclear disaster (2011) nor the Indian Ocean tsunami (2004). Indeed, the combustion of a long-overlooked cargo of 2,750 tonnes of ammonium nitrate had nearly levelled the city of Beirut, Lebanon, on Aug 4 2020. The explosion left 204 dead; 7,500 injured; US$15 billion in property damages; and an estimated 300,000 people homeless (Urbina, 2020). The environmental costs have yet to be adequately tabulated. Environmental disasters are more attributable to Black Swan events, systems breakdowns and corporate greed rather than to mundane human activity. Our JIT world aggravates the cascading potential of risks (Korowicz, 2012). Production and delivery delays, caused by the COVID-19 outbreak, will eventually require industrial overcompensation. This will further stress senior executives, workers, machines and a variety of computerized systems. The trickle-down effects will likely include substandard products, contaminated food and a general lowering in health and safety standards (Maavak, 2019a). Unpaid or demoralized sanitation workers may also resort to indiscriminate waste dumping. Many cities across the United States (and elsewhere in the world) are no longer recycling wastes due to prohibitive costs in the global corona-economy (Liacko, 2021). Even in good times, strict protocols on waste disposals were routinely ignored. While Sweden championed the global climate change narrative, its clothing flagship H&M was busy covering up toxic effluences disgorged by vendors along the Citarum River in Java, Indonesia. As a result, countless children among 14 million Indonesians straddling the “world’s most polluted river” began to suffer from dermatitis, intestinal problems, developmental disorders, renal failure, chronic bronchitis and cancer (DW, 2020). It is also in cauldrons like the Citarum River where pathogens may mutate with emergent ramifications. On an equally alarming note, depressed economic conditions have traditionally provided a waste disposal boon for organized crime elements. Throughout 1980s, the Calabriabased ‘Ndrangheta mafia – in collusion with governments in Europe and North America – began to dump radioactive wastes along the coast of Somalia. Reeling from pollution and revenue loss, Somali fisherman eventually resorted to mass piracy (Knaup, 2008). The coast of Somalia is now a maritime hotspot, and exemplifies an entwined form of economic-environmental-geopolitical-societal emergence. In a VUCA world, indiscriminate waste dumping can unexpectedly morph into a Black Hawk Down incident. The laws of unintended consequences are governed by actors, interconnections, interactions and adaptations in a system under study – as outlined in the methodology section. Environmentally-devastating industrial sabotages – whether by disgruntled workers, industrial competitors, ideological maniacs or terrorist groups – cannot be discounted in a VUCA world. Immiserated societies, in stark defiance of climate change diktats, may resort to dirty coal plants and wood stoves for survival. Interlinked ecosystems, particularly water resources, may be hijacked by nationalist sentiments. The environmental fallouts of critical infrastructure (CI) breakdowns loom like a Sword of Damocles over this decade. GEOPOLITICAL The primary catalyst behind WWII was the Great Depression. Since history often repeats itself, expect familiar bogeymen to reappear in societies roiling with impoverishment and ideological clefts. Anti-Semitism – a societal risk on its own – may reach alarming proportions in the West (Reuters, 2019), possibly forcing Israel to undertake reprisal operations inside allied nations. If that happens, how will affected nations react? Will security resources be reallocated to protect certain minorities (or the Top 1%) while larger segments of society are exposed to restive forces? Balloon effects like these present a classic VUCA problematic. Contemporary geopolitical risks include a possible Iran-Israel war; US-China military confrontation over Taiwan or the South China Sea; North Korean proliferation of nuclear and missile technologies; an India-Pakistan nuclear war; an Iranian closure of the Straits of Hormuz; fundamentalist-driven implosion in the Islamic world; or a nuclear confrontation between NATO and Russia. Fears that the Jan 3 2020 assassination of Iranian Maj. Gen. Qasem Soleimani might lead to WWIII were grossly overblown. From a systems perspective, the killing of Soleimani did not fundamentally change the actor-interconnection-interaction adaptivity equation in the Middle East. Soleimani was simply a cog who got replaced.

Government support was vital to help people and firms survive pandemic lockdowns and support the economic recovery. But where inflation is high and persistent, across-the-board fiscal support is not warranted. Most governments have already dialed back pandemic support, as noted in our October Fiscal Monitor. With many people still struggling, governments should continue to prioritize helping the most vulnerable to cope with soaring food and energy bills and cover other costs—but governments should also avoid adding to aggregate demand that risks dialing up inflation. In many advanced and emerging economies, fiscal restraint can lower inflation while reducing debt. Central banks are raising interest rates to dampen demand and contain inflation, which in many countries is at its highest levels since the 1980s. Because rapid price gains are costly to society and detrimental to stable economic growth, monetary policy must act decisively. While monetary policy has the tools to subdue inflation, fiscal policy can put the economy on a sounder long-term footing through investment in infrastructure, health care, and education; fair distribution of incomes and opportunities through an equitable tax and transfer system; and provision of basic public services. The overall fiscal balance, however, affects the demand for goods and services, and inflationary pressures. A smaller deficit cools aggregate demand and inflation, so the central bank doesn’t need to raise rates as much. Moreover, with global financial conditions constraining budgets, and public debt ratios above pre-pandemic levels, reducing deficits also addresses debt vulnerabilities. Conversely, fiscal stimulus in the current high inflation environment would force central banks to slam on the brakes harder to curb inflation. Amid elevated public and private sector debt, this may raise risks for the financial system, as our Global Financial Stability Report described in October. Against that backdrop, policymakers have a responsibility to provide strong protections to those in need, while paring back elsewhere or raising additional revenues to reduce the overall deficit. Fiscal responsibility—or even consolidation where needed—demonstrates that policymakers are aligned against inflation. When fiscal adjustment is sustained, ideally through a medium-term fiscal framework that sketches the direction of policy over the next few years, it also addresses looming pressures on debt sustainability. These include aging populations in most advanced and several emerging economies, and the need to rebuild buffers that can be deployed in future crises or economic downturns. In our research, we use a stylized two country model (where the “home economy” may be the US or a group of advanced economies). We study two different approaches to curb inflation. The first relies exclusively on monetary tightening to cool the overheating economy, whereas the second involves fiscal consolidation. Both are constructed to have similar effects on economic growth, and each is effective in reducing inflation. Under the first, higher interest rates and the weaker growth contribute to rising public debt. Meanwhile, the currency appreciates as higher yields attract investors. Under the second approach, fiscal tightening cools demand without the need for interest rates to rise, so the real exchange rate depreciates. And with lower debt-service costs and smaller primary deficits, public debt declines. The real exchange-rate appreciation under tighter monetary policy implies that inflation falls a bit more, but this difference would diminish if more countries pursued these policies. Faced with high food and energy prices, governments can improve their fiscal position by moving from broad-based support to assisting the most vulnerable—ideally, through targeted cash transfers. Because supply shocks are long-lasting, attempts to limit price increases through price controls, subsidies, or tax cuts will be costly to the budget and ultimately not be effective. Price signals are critical to promote energy conservation and encourage private investment in renewables. The desirable fiscal stance and measures underpinning it will depend on country-specific circumstances, including current inflation rates and longer-term considerations such as debt levels and developmental needs. In most countries, higher inflation strengthens the case for fiscal restraint, calling for raising revenue or prioritizing spending that preserves social protection and growth-enhancing investments in human or physical capital. In the United States, the early-1980s disinflation under Federal Reserve Chairman Paul Volcker exemplified the challenges of controlling inflation. Inflation had become entrenched at high levels, and fiscal policy was expansionary. The Fed had to raise rates sharply to rein in inflation, causing a collapse in housing investment and historically large appreciation of the dollar. Manufacturing was hard hit, leading to calls for trade protectionism. That historical episode is relevant for many countries facing similar challenges today. A more balanced removal of policy stimulus, including fiscal restraint, can reduce the risk that some parts of the economy—especially those most sensitive to interest rates—experience disproportionate effects, or that large swings in the currency heighten trade tensions. This would also reduce risk globally. Less abrupt interest rate hikes would imply a more gradual tightening of financial conditions and mitigate financial stability risks. This would tend to limit adverse spillovers to emerging market economies and reduce the risk of sovereign debt distress. Avoiding a sharp appreciation of the US dollar or other major currencies would also lessen pressures on emerging markets that borrow in those currencies. While many central banks are tightening policy in response to the large and persistent rise in global inflation, the policy mix matters. Fiscal restraint will reduce the cost of bringing inflation back to target in a timely way, compared with the alternative of leaving monetary policy alone to act.