Record high growth with record high inflation means the economy is overheated.
The Bureau of Economic Analysis (BEA) just released the first estimate for real GDP growth for the fourth quarter of last year. The economy grew at a 6.9% rate. For the entire year, growth was slightly better than expected, at 5.7%. As was reported earlier this month, the Consumer Price Index (CPI) increased by 7%.
Last year was a high growth and high inflation year. The year also ended at a full-employment level. In fact, there was a labor shortage, which hindered growth. Today the economy is producing about 2% more goods and services than was being produced before the pandemic.
The country is producing at that level with about 3 million fewer workers. Had those 3 million decided to return to work, growth would have been even higher.
This Is Called an Overheated Economy
Economists refer to an economy with record high growth and record high inflation as an overheated economy.
With an overheated economy, it is critical that actions are taken immediately to cool the economy. Failure to do so will lead to stubbornly high and stubbornly persistent inflation. That must be avoided and should be the primary focus of government policy today.
To cool an economy, the federal government should reduce spending. In the last two years, the federal government has spent $13.6 trillion which was $5.7 trillion more than was received in tax revenue. That contributed significantly to the excess demand in the economy which led to the high inflation.
Government spending should be reduced, or at least delayed until inflation comes down. Obviously, that means that no new spending should be considered. The Biden Build Back Better plan should not be passed. That would increase government spending, add more excess demand and lead to even higher prices.
The Federal Reserve (Fed) should also act quickly. The reality is that the Fed is taking too little action — and the action is too late. Early last year, it was obvious that inflation would be a serious problem. The Consumer Price Index (CPI), which typically increases by about 0.2% monthly, increased 0.3% in January, 0.4% in February, 0.6%…