Recent inflation was primarily driven by fiscal spending, not the bank-lending credit booms of the 1970s. The Fed’s main tool—raising interest rates—is designed to curb bank lending. This creates a mismatch where the Fed is slowing the private sector to counteract a problem created by the public sector.

The Fed's struggle with inflation is less about domestic demand and more a direct result of administration policies. Geopolitical actions affecting oil prices and tariffs are creating supply-side shocks that push inflation higher, creating tension between the White House and the Fed.

During an energy supply shock, central banks are trapped. Hiking rates doesn't increase oil supply and often causes a recession, leading to a policy reversal within a year. Conversely, stimulating the economy fuels demand into a supply-constrained market, worsening inflation. There is no easy path forward.

While rate hikes can't solve supply shocks like high oil prices, the Fed still acts to prevent the initial price increase from 'bleeding' into dozens of other items. This preemptive measure aims to stop a temporary shock from becoming entrenched, broad-based inflation, which would be much harder to control later.

Raising interest rates is a tool to cool an over-exuberant economy. It is completely ineffective against inflation driven by external supply shocks, such as an energy crisis caused by war. No amount of rate hikes can solve a geopolitical problem, meaning central banks are using the wrong tool for the job.

The Federal Reserve is in a 'pickle,' using interest rate hikes—a tool that curbs demand—to fight inflation that is largely driven by supply-side factors like energy costs and supply chain disruptions. This approach may not effectively address the root causes of rising prices and primarily impacts already soft, interest-rate-sensitive sectors of the economy.

The Federal Reserve's primary tool, raising interest rates, is a blunt instrument. It's used to slow down the entire economy (reduce overall demand) to offset specific inflationary problems it can't directly control, such as tariffs, oil supply shocks, or high energy consumption from new technologies like AI.

The textbook response to supply-shock inflation is to "look through" it and hold rates. However, one expert argues that after five years of high inflation, the sheer duration creates a risk of it becoming embedded. This "duration risk" could override the cause, forcing the Fed to tighten policy as a risk management measure.

Policymakers, scarred by post-COVID inflation, risk tightening monetary policy excessively in response to energy price surges. History suggests these shocks are temporary and primarily affect headline, not core, inflation. The greater danger is stifling economic growth by overreacting to a transient inflationary impulse.