Rates may have to rise somewhat to keep economy from overheating

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Janet Yellen, U.S. Treasury secretary, speaks during the virtual Leaders Summit on Climate in a video screenshot on Thursday, April 22, 2021.

White House | Bloomberg | Getty Images

Treasury Secretary Janet Yellen conceded Tuesday that interest rates may have to rise to keep a lid on the burgeoning growth of the U.S. economy brought on in part by trillions of dollars in government stimulus spending.

“It may be that interest rates will have to rise somewhat to make sure that our economy doesn’t overheat,” Yellen said during an economic seminar presented by The Atlantic. “Even though the additional spending is relatively small relative to the size of the economy, it could cause some very modest increases in interest rates.”

“But these are investments our economy needs to be competitive and to be productive. I think our economy will grow faster because of them,,” she added.

Since the Covid-19 pandemic broke in March 2020, Congress has allocated some $5.3 trillion in stimulus spending, resulting in a more than $3 trillion budget deficit in fiscal 2020 and a $1.7 trillion shortfall in the first half of fiscal 2021.

The Biden administration is pushing an infrastructure plan that could see another $4 trillion spent on a variety of longer-term projects.

Though she said the U.S. needs to focus on fiscal responsibility longer term, she said spending on matters central to the government’s mission has been ignored for too long.

President Joe Biden is “taking a very ambitious approach, making up for really for over a decade of inadequate investment in infrastructure, in R&D, in people, in communities and small businesses, and it is an active approach,” Yellen said. “But we’ve gone for way too long on letting long-term problems fester in our economy.”

The Federal Reserve, which Yellen led from 2014-18, has kept short-term interest rates anchored near zero for more than a year, despite an economy growing at its fastest pace in nearly 40 years. Central bank officials have vowed to keep accommodative policy in place until the economy makes “substantial further progress” toward full and inclusive employment and inflation that averages around 2% over a longer term.

Inflation concerns have arisen due to all the spending and the rapid growth, but Fed officials have said that after a brief rise this year, price pressures are likely to ebb.

Yellen has said she is largely not concerned about inflation becoming a problem, though she has added that there are tools to address it should that happen. Fed Chairman Jerome Powell recently said that the primary tool to control inflation is through higher interest rates.

As for concerns about the large deficits the U.S. is running, Yellen said “we need to pay for some of the things that we’re doing” though the government still has “a reasonable amount of fiscal space.”

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