The chatter on the economic front lately has been about inflation. We’re feeling it in the form of higher energy and food prices in the U.S. while other countries, particularly fast-growing emerging markets such as China and Brazil, are feeling it across the board. Some say it’s no coincidence that the demonstrations in Egypt and other Middle Eastern countries come at a time of high food prices.
Will broad inflation take root in this country? Most mainstream economists think the answer is no, at least not in the next couple of years, because so much slack remains in the form of unemployed workers, empty homes, high vacancy rates in commercial properties, low factory utilization rates, and so on. The Federal Reserve expects headline inflation to remain “subdued” this year, and private economists largely agree. Economists at Wells Fargo, for example, think that core consumer prices, which exclude food and energy, will rise 1.1 percent this year and 1.7 percent next year – still within the Federal Reserve’s informal target range of 1.5 to 2.0 percent.
Although it’s rare for inflation to flare up when there is a lot of excess capacity in the economy, it’s not impossible. “Stagflation,” a hard-to-fight combination of sluggish growth and high inflation, plagued the economy in the 1970s.
If legislators can develop a long-term plan to reduce budget deficits and control debt, it would go a long way toward reassuring the financial markets than inflation can be controlled even as the recovery gains momentum and the excess capacity is put back into production. Being an optimist, I think it will happen before the 2012 elections.