Inflation and unemployment. Where is the US economy heading over the next six months?

Eight thoughts about what may happen to the US economy over the next six months.

1. Inflation will come down, probably more than many people expect. This reflects the sharp turns in some commodity prices, weakness in China, improvements in supply chains, and the strong dollar. There will be claims of victory (not by the Fed), but they will be wrong.
2. Inflation will not come down anywhere close to the target level of 2 percent, the Fed’s stated target. This is because the inertial wage-price interaction is now clearly in play and will not turn around any time soon. Thus, the Fed will have to continue to tighten.
3. The purpose of tightening is to decrease activity and, through this, put downward pressure on wage and price increases. Thus, the Fed will try to achieve a slowdown. It is already in play, even if the GDP numbers almost surely underestimate activity in the first two quarters of 2022.
4. While the focus has been on monetary policy, there is a substantial fiscal consolidation at work, with a major decrease in the deficit. The effect of this consolidation is softened by the fact that consumers built savings earlier and can now spend them. But a smaller federal deficit will play a role. The stronger the adverse effect, the less the Fed will have to increase rates.
5. The sad truth is that there is no such thing as a slowdown without an increase in unemployment. The hope of decreasing job vacancies while leaving unemployment the same, which some officials at the Fed have suggested, is a vain hope. Vacancies will come down; unemployment will go up.
6. Whether or not this slowdown leads to a recession, i.e., (true) negative growth, is a different issue. The slowdown in inflation may give political room to the Fed to go slow and try to achieve lower but positive growth. As Fed chair Jerome Powell has stated, this is hard to do just right.
7. The economic picture at the time of the mid-term elections in November 2022 may not be too bad. Lower inflation, low but positive growth, still low unemployment. If so, this picture will help Democrats. But the hard job of getting inflation down all the way, or at least close to target, will remain.
8. When, some time next year, inflation gets down to 3 percent, there will be an intense discussion of whether it is worth slowing down activity further to get to 2 percent. The Fed may decide to state mission accomplished, and stay at 3 percent, if not forever, at least for a while.