The Paradox of Fed Rate Hikes and Inflation Control

Paul Volcker's aggressive interest rate hikes in the early 1980s, peaking at 22%, are often credited with taming U.S. inflation. Yet the mechanism remains controversial. Construction workers mailed him two-by-fours in protest—their projects stalled, their labor unused. This visceral reaction underscores a fundamental tension: while higher rates suppress demand, they may also constrict supply, particularly in housing.

John Cochrane's analysis cuts to the core: "Today's demand is tomorrow's supply." Crushing homebuilding today means fewer houses tomorrow, perpetuating price pressures. The Fed's blunt instrument addresses symptoms—too much money chasing goods—but fails to resolve the underlying scarcity. Volcker's success may have relied less on monetary tightening than on shifting expectations during a unique historical moment.