Fed’s Beige Book Adds to Fears of Stagflation

The U.S. economy grew at a “modest” pace at the end of 2021, as inflation remained elevated, according to the Fed’s beige book, which was released on Wednesday afternoon. That added to Wall Street’s fears that the U.S. economy is heading into a state of stagflation, a situation of high inflation and high unemployment.

The beige book surveys the business situation in the U.S., and is conducted by the 12 Federal District Banks, and published eight times a year. First, the publication provides information on economic growth, employment, and prices. These are issues addressed in FOMC meetings that determine, once again, how far or how close the economy is to the Fed’s dual mandate of maximum employment and stable prices. Then, it sets the direction of monetary policy, which affects interest rates and financial markets.

Sometimes, determining how far the Fed is from either mandate isn’t tricky. For example, the economy may be too far from either mandate, meaning that monetary policy must raise employment or lower inflation. However, the situation is tricky at other times, as the economy may be too far from one mandate but not far enough from the other, as has been the case lately.

Modest Output Growth

The U.S. economic activity grew at a modest pace at the end of 2021, due to supply disruptions and labor shortages arising from the resurgence of Covid-19 infections.

Here’s a quote from the Fed’s Beige book: “Contacts from many Districts indicated growth continued to be constrained by ongoing supply chain disruptions and labor shortages. Despite the modest pace of growth, demand for materials and inputs, and demand for workers, remained elevated among businesses. Lending activity picked up slightly toward the end of the year, led by commercial real estate borrowers. Consumer spending continued to grow at a steady pace ahead of the rapid spread of the Omicron COVID-19 variant. Most Districts noted a sudden pullback in leisure travel, hotel occupancy and patronage at restaurants as the number of new cases rose in recent weeks.”

Meanwhile, businesses in several districts indicated that growth had cooled off in the last few weeks of the year.

This passage echoes a similar comment made by Fed Chair Jerome Powell in his testimony to the U.S. Senate yesterday. However, he was a little bit more upbeat about the Fed moving closer to the Fed’s goal of maximum employment.

Solid Price Growth

The improvement in economic growth came at the cost of higher prices that the nation’s firms charged to consumers.

Here’s another quote from the Beige book: “Contacts from most Federal Reserve Districts reported solid growth in prices charged to customers, but some also noted that price increases had decelerated a bit from the robust pace experienced in recent months.”

The reason? Due to ongoing supply chain disruptions, the rise in wholesale and materials prices. “Some Districts reported that transportation bottlenecks had stabilized in recent weeks, though procurement costs remained elevated. Ongoing labor shortages and associated wage growth also added cost pressures to businesses,” adds the Beige book.

Simply put, inflation is turning from a transitory problem, as it was once thought to be, to a permanent one. That’s why the FOMC has announced a change in its monetary policy, from aiming at maximum employment to price stability. That’s at least for the time being, as the disruptions that push inflation higher push economic growth lower, too, complicating matters for the Fed.

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