Interest Rates…Higher for How Long?

Certain economic indicators have recently pointed toward an economy that is actually quite robust. What does this tell us about inflation? And why is this bad for anyone hoping for lower interest rates? 

The Bureau of Labor Statistics recently reported that the U.S. labor market added more than 303,000 new jobs (non-farm payroll) during the month of March. This number was 41% higher than what was expected by many economists, pushing the unemployment rate down to 3.8%. 

Reports have also shown that consumer spending remains strong, with buyers continuing to make purchases at record levels. If more people are working and more money is spent on goods and services, that must be good for the economy…right? 

Yes, well…sometimes. But not when these conditions are accompanied by higher-than-desired inflation. 

The U.S. economy has already been dealing with high inflation during the past few years, in large part due to lingering effects of the Covid pandemic and the Federal government’s response. After peaking in 2022, inflation steadily cooled during 2023, but never reaching the Fed’s targeted rate of 2%. So, why did the decline in inflation suddenly stall at 3.2% in February, before ticking upward to 3.5% in March? 

The answer lies, largely, in the economic indicators we just discussed. A strong job market ultimately leads to higher wages, as employers often must bid for the services of skilled workers. This puts more money in the pockets of consumers who, in turn, spend more on homes and furnishings, cars, fuel, clothing, etc. At the same time, persistent supply-chain issues has led to shortages, with the supply of many goods and services not able to keep up with the increased demand. 

Basic economics teaches us that more money chasing fewer goods creates inflation. 

This stubborn inflation has become a source of frustration for the Fed, which projected as recently as last month that it expected to cut the Fed Funds rate three times this year. Many economists expected those cuts to come as early as June. More recently, Fed officials have signaled that there are no immediate plans to begin lowering rates. Some economists believe that the Fed may still lower rates later this year, while others think that it may not cut rates at all in 2024. 

As a result, it appears, at least for now, that borrowers will continue to pay more for their mortgages, car loans, and credit cards. 

If you have questions regarding the impact of inflation and higher interest rates on your finances, please reach out to your planner.