The Federal Reserve’s Little Secret
Arguably the single most important question for the U.S. economy in 2024 is whether and when the Federal Reserve will cut interest rates. With inflation still hovering just above the Fed’s 2 percent target, the central bank faces a dilemma: Lower rates too quickly, and inflation could take off again; keep them high for too long, and the public could suffer unnecessarily. The decision could even affect the outcome of the presidential election. Wall Street and the White House are anxiously awaiting the Fed’s next move.
Given all that, you might reasonably expect the relationship between interest rates and inflation to be thoroughly understood by the economics establishment. Not so. Over the past two years, reality has looked nothing like the theories found in economics textbooks. The uncomfortable truth is that no one really knows how interest rates work or even whether they work at all—not the experts who study them, the investors who track them, or the officials who set them.
The belief that raising interest rates is the cure for inflation has long been an article of faith. In the early 1980s, when inflation reached nearly 15 percent, then–Fed Chair nearly 11 percent in 1982 and stayed high for years. But inflation stabilized, and Volcker went down in history as the hero who wrecked the economy to save it.
