Americans view recession as a lesser evil to non-stop inflation

The Fed is coming to terms with the fact that Americans prefer a recession over never-ending inflation.

In an interview with The Financial Times, Minneapolis Fed President Neel Kashkari said that he was surprised by how much the American public resents rising prices.

“I also have learned that the American people and maybe people in Europe equally, really hate high inflation. I mean, really viscerally hate high inflation,” he said.

According to Kashkari, that perspective came from dozens of conversations with small businesses and labor groups.

He highlighted a comment from a labor leader who represents low-income workers. She mentioned that inflation is worse than a recession, much to Kashkari’s surprise.

After all, he thought, isn’t it worse to lose your job altogether? Not the case, she said.

Kashkari recounts how she said people can rely on friends and family for support during recessions. However, high inflation affects everyone, leaving no one to turn to for help.

“That was a profound comment for me to hear, and that really flies in the face of conventional economic thinking. And it led me and our economists at the Minneapolis Fed to debate this a lot. But she was on to something,” said Kashkari.

How exactly did we get here? No one seems to be sure.

It may be surprising to hear someone say they prefer a recession, but then again, the last couple of years seem to be challenging everyone’s ideas on economic policy.

Kashkari pointed out that traditional economic models failed to predict the current inflation scenario.

He explained that inflation typically arises from two main sources: unanchored inflation expectations and a tight labor market leading to high wage gains, known as the Phillips curve.

However, in April and May of 2021, core inflation exceeded 2% despite a 6% unemployment rate, challenging the conventional understanding of inflation dynamics.

Kashkari said he’s not even sure the forecasting models the Fed uses would have come up with this scenario even if they had inputted all the economic shocks exactly.

“It should have been impossible using our traditional models for high inflation to hit us. Yet we saw very high inflation. And so I think we need to have a lot of serious reflection on what our models are missing in terms of possible sources of inflation," said Kashkari.

Kashkari added there’s a lesson in all of this: economists may need to be more open-minded about all the potential causes of inflation.

Americans are chomping at the bit, waiting for a rate cut

Earlier in the year, many economists speculated multiple rate cuts in 2024.

However, multiple fed officials have sung a different tune as more inflation data comes in. Many are adopting a wait-and-see approach to rate cuts (including Kashkari).

That's until inflation comes down to target, which—as some officials speculated—might not happen this year.

Kashkari says he understands why some Americans are having a hard time being patient.

“If you look now, the economy is — in the US — quite strong. The labor market is strong. Inflation is coming down. And many, many people are deeply unhappy about the status of the economy," he said.

"I think it’s because of the high inflation that they’ve experienced.”