The 3-Year Economic Rollercoaster

 The 3-Year Economic Rollercoaster

We know that economists are always wrong, but the last three years predictions have been heavily miscalculated. They first underestimated inflation, then the labor market and consumer behavior. They also predicted the interest rate increases by the Federal Reserve, supposed to slow down the economy and bring inflation down, would put the economy into a recession. 

Price levels have been rising for the past 30 months and even with rates going up significantly, the economy still remains strong. More Americans are working than predicted, and consumers are spending more than expected. Right now, we do not see any sign of an economic downturn. But why did economists forecasted the pandemic and the economy after it so wrong?

Economists usually expect that economic growth slows down by the end of the year until early of the following year, which would cause unemployment to rise and inflation to go down. However, they are now expressing low confidence in their predictions due to the post-pandemic's economic unpredictability.

There were two main factors that contributed to the forecasting difficulties. First, the challenge to predict how the pandemic would affect consumer and business behavior because the world had not experienced a pandemic of this magnitude since the Spanish flu in 1918. Secondly, in response to the pandemic, broad fiscal policies were implemented, resulting in the infusion of over $4 trillion into the economy by the Trump and Biden administrations. 

Initially, economic models failed to consider the impact of pandemic-related savings on consumer behavior, resulting in an unexpected increase in inflation in 2021. Although unemployment rates were high, Americans' accumulated savings and increased demand for used cars and home exercise equipment contributed to price increases. In addition to the situation getting worse, the Russian invasion of Ukraine resulted in an increase in oil prices. However, as the labor market improved and wages grew, the predicted recession did not materialize.

The expected recession has not occurred yet, and economic growth continues to be strong. Consumers keep spending, and the fiscal stimulus keeps going for longer than anticipated. Economists now question if inflation can slow down without affecting growth. Despite falling to 3.7 percent in September, inflation remains higher than pre-pandemic levels of 2 percent. In view of inflation's persistence and the economy's resilience, some on Wall Street have suggested maintaining high interest rates to control it fully, a concept they call "Higher for longer." It has also been suggested that the low-rate, low-inflation environment of 2009 to 2020 may never be seen again.

Reference:

https://www.nytimes.com/2023/10/24/business/economy/economy-interest-rates-inflation.html