A very critical question still looming in the economy is why consumer prices continue to grow, even after an effort by the Federal Reserve to raise interest rates. Some explanations economists give include quirks of the current economic moment, such as a delayed post-pandemic surge in cost of home and auto insurance. Others include structural issues such as the lack of affordable housing that has caused rent prices in big cities to skyrocket. Other economists, including top officials, say the federal government bore some of the blame because it continued to pump borrowed money into the economy in a time when we did not need a fiscal boost. The borrowing is a result of a federal budget deficit that was elevated by tax cuts and spending increases.
I.M.F. officials warned that the deficit was also increasing prices. A report earlier this month stated that performance was impressive, but it was fueled in part by a pace of borrowing that is out of line with long-term fiscal sustainability. I.M.F. said that U.S. fiscal policies added about half a percentage point to the national inflation rate and raised short-term risks to the disinflation process. Essentially the government was working at cross-purposes with the Fed. Biden administration officials have sided against the I.M.F. but have been careful not to comment directly on the central bank's interest rate decisions instead just simply saying that their fiscal stance is not fighting the Fed.
The deficit is now larger, as a share of the economy than is historically normal for this point in an economic recovery, especially when employment is low and economic growth remains strong. This high deficit could affect inflation in numerous ways. It could increase demand for goods or services that remain in short supply, which drives up prices. It could also affect consumers' views about how much inflation they expect in the future and chip away at the effectiveness of Fed rate increases to slow growth.
