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The U.S. Federal Reserve is struggling to keep the economy stable and is being hampered by a familiar challenge: rising oil prices. In the past, high energy costs have pushed America into recession before, such as in the 1970s, early 1980s and 1990s. This happened because costs increased and consumer spending decreased. Since June this year, oil prices have risen by almost 30%, mainly due to production cuts in Saudi Arabia and Russia.
Mark Zandi, chief economist at Moody's Analytics, emphasized that rising oil prices are a major concern. He noted that anything above $100 a barrel for an extended period of time could seriously damage the economy. Rising oil prices present the Federal Reserve with a dilemma. These supply shocks could both raise inflation and stifle economic growth, putting the Fed in a quandary over whether to raise or lower interest rates today.
Traditionally, the Fed has downplayed the impact of high oil prices on inflation and viewed it as temporary. That's why they often focus on core inflation — excluding volatile food and energy costs — when setting monetary policies.
Ellen Zentner, chief U.S. economist at Morgan Stanley, suggests that the Fed is likely to ignore the current spike in oil prices. Zentner argues that reduced spending due to higher gasoline costs may actually be beneficial, given that the economy has grown faster than the Fed expected.
Surprisingly, consumer inflation expectations have recently fallen to their lowest level in more than two years, according to a University of Michigan survey. Nevertheless, not everyone is convinced that the situation will remain so innocent. Lindsey Piegza, chief economist at Stifel Financial Corp, warns that volatility in energy prices could force the Fed to take more aggressive action than currently expected. Even if Saudi Arabia and Russia ease their production cuts in early 2024, global oil supplies will be severely depleted, the International Energy Agency says.
As oil prices continue to rise, the balancing act for the Federal Reserve becomes increasingly complicated, reflecting the complex interplay of factors affecting both inflation and economic growth. It remains to be seen what the Fed decides tonight.
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Source: Bloomberg
