Supply shocks strike repeatedly, Fed's Goolsbee warns: fighting inflation may come with unavoidable "economic pain"

Chicago Fed President Austan Goolsbee warned that the Federal Reserve cannot ignore recurring, persistent supply shocks and must respond in a way that may cause economic pain. "Supply shocks are coming more frequently, hitting harder and lasting longer," Goolsbee said in prepared remarks for an event in London on Monday, "and once the inflation effects of a supply shock become persistent, part of the logic for 'looking through' them no longer holds." He added that while the Fed's response to these shocks and the inflation they generate need not be as aggressive as when confronting overheated demand, it will still not be pain-free. "This is the painful trade-off between employment and inflation that stagflationary shocks have always imposed on central banks," Goolsbee said, "and unfortunately, in this environment, the only way back is the hard way." Fed officials raised interest rates last Wednesday for the first time in three years and projected another hike before the end of the year. Policymakers are increasingly worried about inflation which has not touched their 2% target for five and a half years. Some have echoed Goolsbee's concern that price pressures are spreading beyond the supply shocks represented by tariffs and the post-Iran war oil price surge. Fed Chair Kevin Warsh, appointed by Trump earlier this year, characterized the decision as "removing accommodation" so that inflation can continue to cool. Goolsbee's warning comes as Trump administration officials have repeatedly called on the Fed to hold or even lower rates, making the traditional argument that supply shocks are only one-time hits to prices. Trump economic adviser Peter Navarro wrote after the Fed's rate decision, "Don't raise rates when the energy price shock is at its most intense," adding, "Warsh has now broken that rule it is arguably the worst first rate hike decision by any new Fed chair in modern history." The Chicago Fed president acknowledged that since the 1970s, central banks have typically chosen to "look through" supply shocks as temporary factors. But he said that in recent years, such shocks have become a "regular feature" of the economy, and he expects them to last longer than initially thought. He cited post-pandemic supply chain problems, oil prices hovering near $100 a barrel for much of this year, and escalating tariffs. Pushing Down Demand Goolsbee said continuing to ignore repeated and persistent shocks "means failing to fulfill the price stability mandate." "If projections show large, persistent, recurring shocks, the central bank still needs to restore price stability in line with its statutory mandate and the only way to push inflation down is to raise rates and narrow the gap between supply and demand, even if it does not occur in the exact same industries where the cost shocks appeared," he said. Goolsbee said that while the Fed's response to the current problem may not need to be as aggressive as its response to demand shocks (which tend to be more persistent), the economy may still need to endure declines in employment, wages and growth because the Fed must cut demand. "To rebalance after a persistent negative supply shock to the economy, people need to adjust to a new, less favorable equilibrium, and wages need to fall," Goolsbee said. The remarks run counter to Warsh's view. While the new chair aligned with the committee in the rate hike vote, he said at the post-meeting press conference that he did not believe it was necessary to damage the labor market to reach the 2% inflation target. "I don't think the two parts of our mandate price stability and full employment will conflict with each other in the medium term," he said.