Most of us think of the Federal Reserve as the nation’s main inflation-fighting agency. If inflation rises, or threatens to, the Fed usually tries to stop it in its tracks with higher interest rates, making it more expensive to borrow money. That results in an economy with less money to spend (or, as economists often phrase it, a “less liquid” economy). Since a standard definition of inflation is “too much money chasing too few goods,” it makes sense to reduce the amount of money available both to businesses and to consumers in order to battle inflation.
Now, however, we’ve begun hearing that the rate of inflation is a bit too low, according to the Fed. For most of us, this is a rather foreign concept, though we are aware that deflation can do a great deal of damage, as Japan has demonstrated over the past decade. The Fed will do what it can to make even more money available and thus keep rates as low as possible, hopefully stimulating more lending, investing and consumer purchases in our economy.
The most recent Consumer Price Index (CPI) underscores the reasons for the Fed’s concern. The overall rate at which consumer prices rose in September was a very small 0.1%. Even more important, perhaps, the core rate (with volatile food and energy prices removed) didn’t rise at all. It was the second month with a 0% rate of increase. As a result, the annual core rate of inflation moderated to 0.8%, which is as low as that indicator has been in almost 40 years.
Now, most economists still assert that the threat of genuine deflation remains quite low. That would explain the Fed’s on-going reassurances that it will almost certainly begin purchasing Treasury securities again in large quantities. Doing so, economists often remind us, should keep interest rates at record lows and perhaps even add slightly to the inflation rate.
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