Economist Mohamed El-Erian predicts “rigid” inflation despite Federal Reserve’s efforts to bring it down

As of December 2022, the annual inflation rate has fallen to 6.5 percent, and many experts predict it will continue to fall. However, Cambridge University economist Mohamed El-Erian believes that inflation will become “sticky” in the middle of the year, around 4%. The central bank’s main objective is to reduce inflation to 2 per cent.

5% is the new 2%: Tight monetary policy and interest rate hikes fail to reduce inflationary pressure.

Members of the Federal Reserve, including its 16th chairman, Jerome Powell, have frequently stated that the bank’s goal is to bring inflation down to 2 percent. Jerome Powell emphasized that the Federal Open Market Committee (FOMC) “is currently focused on returning inflation to our 2 percent objective“. To control inflation, the central bank has used its policy of monetary tightening and interest rate hikes. So far, the Fed has raised rates seven times in a row since last year, with increases on a monthly basis.

Inflation in the U.S. has been falling since it approached double digits in October and November 2022. At that time, economist Peter Schiff stated that “America’s days of sub-2% inflation were over.“At the World Economic Forum’s 2023 event in Davos last week, JLL CEO Christian Ulbrich told the Financial Times that his peers are starting to say that 5% will be the new 2%. “Inflation will remain permanently around 5%“Christian Ulbrich told FT reporters. Mohamed El-Erian, president of Queens’ College at Cambridge University, explained on January 17 that inflation could become “sticky” around the 4% range.

“Stocks and bonds are having an exuberant start to 2023, but there is still a lot of uncertainty about the outlook for global growth, inflation and economic policy“, said Mohamed El-Erian wrote in an article published on Bloomberg. “The improved growth prospects in the U.S. are being accompanied by a depletion of savings, which had benefited from large fiscal transfers to households during the pandemic, and an increase in debt“, adds the economist.

El-Erian: the “increasing wage pressure“will cause a noticeable change in inflation

Mohamed El-Erian also noted that the value of bitcoin (BTC) has seen a notable appreciation this year, and he attributes it to investors’ acceptance of relaxed financial constraints and increased risk-taking attitudes. “Bitcoin is up about 25 percent year-to-date thanks to easing financial conditions and increased risk appetite“, writes the economist.

While the Federal Reserve is aiming to bring inflation back into the 2 percent range, and some predict the inflation rate will fall to 2.7 percent this year and 2.3 percent in 2024, Mohamed El-Erian anticipates a membership forecast around the 4 percent range. The “increasing pressure on wages” is driving this change, Mohamed El-Erian said.

“This transition is particularly notable because inflationary pressures are now less sensitive to central bank action“, writes the economist. “The result may well be stiffer inflation at about twice the level of the current central bank inflation target.“