Fed Expects a ‘Mild Recession’ This Year

Inflation Falls to Lowest Level Since May 2021

Annual inflation continued to cool last month, falling to its lowest level in nearly two years. The Labor Department said Wednesday that its consumer price index rose by 5% year over year in March, down from 6% in February and the ninth straight monthly decline. Still, inflation remains well above the Federal Reserve’s target rate, and so-called “core” inflation rose, making an additional interest rate hike likely when the central bank’s policymakers meet in May.

The consumer price index rose 0.1% from the prior month, down from a 0.4% increase in February. The core CPI, which excludes volatile food and energy prices, rose 0.4%, down slightly from February. Over the last 12 months, the core index rose 5.6%, up from 5.5% as of February — the first rise in that measure since September.

“Today’s report shows continued progress in our fight against inflation with the 12-month inflation rate at the lowest level since May 2021,” President Biden said in a statement. “This progress follows last week’s news that our job market remains historically strong. Inflation has now fallen by 45% from its summer peak.”

Grocery prices fell on a monthly basis for the first time since September 2020. Egg prices, which jumped to record levels recently because of an outbreak of avian flu, fell nearly 11% in March, the biggest monthly drop since 1987. And energy prices fell by 3.5% over the month.

Shelter prices, which tend to lag other categories, continue to climb. They were the largest factor behind the increase in the core index, climbing 0.6% in March after rising 0.8% in February. “The shelter index increased 8.2 percent over the last year, accounting for over 60 percent of the total increase in all items less food and energy,” the Labor Department said. Recent private-sector data suggest that shelter prices have been moderating, though. That should start showing up in the government reports eventually.

Fed economists project a mild recession: The newly released minutes of the March meeting of the Federal Open Market Committee showed that the Fed now expects the economy to dip into a “mild recession” later this year due to turmoil in the banking sector. Even so, investors now project a 70% chance of a 25-basis-point hike in May, down just slightly from yesterday, according to the CME Group’s FedWatch Tool.

The bottom line: “Prices are still up,” Liz Ann Sonders, chief investment strategist at Charles Schwab, told The Washington Post. “They might be rising at a descending rate, but the average consumer still sees that things are getting more expensive than they were.” And Mickey Levy, chief Americas economist for Berenberg Capital Markets, told the Post: “Inflation may be gradually coming down, but people aren’t feeling it yet.”

Deficit for the First Half of the Year Rose to $1.1 Trillion

The federal budget deficit for the first half of fiscal year 2023 totaled just over $1.1 trillion, according to a monthly report released by the Treasury Department. That’s up 65% from the $668 billion shortfall for the same period in 2022.

The federal government posted a $378 billion deficit in March, up from $193 billion for the same month last year. Adjusted for calendar effects, the March deficit was $305 billion.

“The biggest drivers of deficits this year,” says Reuters, “have been higher individual tax refunds as the Internal Revenue Service works through a substantial backlog of unprocessed returns amassed during the COVID-19 pandemic, and lower Federal Reserve earnings.”

The Inflation Reduction Act Was Projected to Reduce Deficits. It May Not.

Clean energy tax credits enacted as part of the Inflation Reduction Act last year “are likely to be far more popular than anticipated,” The Wall Street Journal’s Richard Rubin reports. That could be good for the environment, potentially helping to cut carbon emissions, but it may also raise the cost of the credits by hundreds of billions of dollars — to the point that the new law’s expected deficit reduction could be completely wiped out.

Rubin cites “an emerging consensus of government and private-sector forecasters” who now anticipate the tax credits to be claimed at a much higher rate in large part because of the growing popularity of electric vehicles. The forecasters reportedly include those at Goldman Sachs, a Brookings Institution conference and even the White House Office of Management and Budget (OMB).

“The Goldman and Brookings analyses contend that the tax credits could cost American taxpayers three times as much as the $271 billion forecast when Congress passed the law,” Rubin reports. “The OMB figure points in the same direction, though its estimates about revenue from tougher tax enforcement—which are larger than congressional projections—turn the law from deficit-increasing to deficit-reducing.”

The bottom line: Whether the Inflation Reduction Act ultimately reduces deficits, as Democrats had touted, could depend on the use of those green tax credits and numerous other factors, such as the return on additional funding for the IRS. And, Rubin notes, Republicans may still look to undo the clean energy tax breaks as they look to extend other tax cuts set to expire in 2025.

These types of projections are often uncertain, but one thing is clear: The political fight over the Inflation Reduction Act is far from over.

Chart of the Day: A Record-Setting Year for Income Taxes

Americans paid a record share of their income — nearly 15% — in income taxes last year, Bloomberg Opinion Columnist Justin Fox writes.

“This record-setting income tax burden, and the sharp increase since 2020 that brought it to this level, was not due to new tax legislation taking effect during this period,” Fox writes. “It also wasn’t really expected — the Congressional Budget Office greatly underestimated how much income tax revenue would flow into federal coffers last year. It seems to have been the result of a pandemic asset-price boom interacting with inflation, a progressive tax code and, in a few states, the aftereffects of tax legislation enacted by Congress in 2017.”

Before you get too worked up, though, Fox adds that tax rates are already headed lower and the 2022 rate will not be matched in 2023. Read his column for all the details.

• Inflation Cools Notably, but It’s a Long Road Back to Normal – New York Times
• Fed Economists Project Recession This Year, in Potential Blow to Biden – Politico
• Fed Officials Fretted Bank Turmoil Could Have Serious Economic Consequences – New York Times
• The White House Is Welcoming the Latest Inflation Numbers. Others Aren’t So Sure. – Politico
• March Inflation Report Hints at Cooler Price Gains – Axios
• Larry Fink Sees ‘Stickier’ Inflation Not Going Below 4% Soon – Bloomberg
• U.S. Government Posts $378 Billion Deficit in March – Reuters
• Green Tax Credits Are Likely to Be More Popular—and Expensive—Than Expected – Wall Street Journal
• Inside the IRS’s Shrinking Band of Wealth Hunters – Bloomberg Businessweek
• GOP Faces Difficult Budget Fight as It Nears 100 Days in Power – The Hill
• White House Prepares for Legal and Political Battle on Abortion Pill – Washington Post
• Sen. Tim Scott Launches 2024 Presidential Exploratory Committee – CNN
• White House Designates Animal Sedative as an ‘Emerging Drug Threat’ – New York Times
• The 5 Best — and Worst — Places to Work in the U.S. Government, According to Federal Workers – Politico
• Lifelong Rodent Hater Will Earn $155,000 a Year as NYC’s Rat Czar – Bloomberg

• Inflation Is Falling. Why Aren’t People Noticing? – Abha Bhattarai and Jeff Stein, Washington Post
• U.S. Economy May Be Heading to a Place That Must Not Be Named – Jeff Sommer, New York Times
• Federal Reserve Pause Is Still Coming, Just Not Yet – Jonathan Levin, Bloomberg
• How 2022 Became a Record Year for US Income Taxes – Justin Fox, Bloomberg
• Will Expanded Health Worker Roles Help Patients? – Daniel Payne and Krista Mahr, Politico
• White House Won't Ignore the Abortion Pill Ruling – but It Will Fight It – Rachel Roubein, Washington Post
• Liberals Have a Blind Spot on Defense – Bret Stephens, New York Times