Fed Officials Bet on Expectations to Tame Inflation Without Job Market Damage

US Federal Reserve officials are optimistic they can tame high inflation without damaging the job market by relying on expectations rather than demand destruction. They believe that if businesses anticipate falling inflation, they will raise prices less, which would help keep inflation under control.

Fed Chairman Kevin Warsh and other policymakers think a soft landing from inflation is achievable with little to no rise in the unemployment rate. However, there are concerns that absent an abrupt end to supply shocks currently driving inflation, something may need to take a hit from rate hikes to slow inflation down.

The labour market is seen as balanced near full employment, with a jobless rate of 4.1% and moderate wage gains consistent with 2% inflation. Inflation, measured by the Personal Consumption Expenditures (PCE) Price Index, stands at 3.7%, but not at levels that prompted the stiffest Fed rate hikes since the 1980s.

Fed officials are counting on anchored expectations and changing price-setting behaviors to bring down inflation without harming the job market. However, some economists warn that this approach may mean slower progress and a longer inflation fight.