Specifically, the Federal Reserve felt that enhancements to productivity on the part of U.S. firms were unlikely to out run the wage pressures created by years of strong economic growth.  The Federal Reserve was convinced that even the so-called "new economy" was subject to inflationary pressures.  As a result, the Federal Reserve embarked on a series of interest rate hikes in an attempt to tighten credit markets and slow the economy down to a sustainable growth path;  in other words, a rate of economic growth that would not cause acceleration in inflation.

     Due to recent events, the job of the Federal Reserve has become a lot more difficult.  Federal Reserve policy actions affect the economy on a lagged basis.  A policy action enacted today could take six months or more before it fully impacts the economy.  In essence, the Federal Reserve must forecast the state of the economy six months or more into the future.  The problem of course is that no one can predict what events may take place between now and the end of the forecasted period.

     As alluded to earlier, there are events taking place in the world that are raising concerns about the viability of the economic expansion.  Some analyst go so far as to indicate that the Federal Reserve should lower interest rates and ease credit conditions to help offset what they perceive as being potential threats to the economy.

     The threats to current economic expansion center around energy prices and the political uncertainty in the Middle East.  Even though the importance of oil to our economy has been greatly diminished since the 1970s, it is nonetheless a very important factor capable of having a substantial impact on our economy.  With the unrest in the Middle East there is concern that energy prices could increase to even higher levels.  Couple this with tighter credit conditions created by the Federal Reserve, and the Fed's planned soft landing for the economy could turn into a recession.  Some analyst put the risk of a recession next year at 30 percent. 

     Moreover, political unrest in the world has caused a flight into U.S. dollars.  U.S. dollars have been traditionally viewed as a safe haven for financial assets in times of political uncertainty.  The problem is that many foreign currencies like the Euro have fallen in value relative to the dollar.  A large number of U.S. firms do a substantial amount of business overseas.  When their overseas profits are converted back into U.S. dollars, the profits are significantly diminished by depreciation of the foreign currencies.  This has caused an impact on Wall Street where corporate earnings have recently fallen short of investor expectations.  This, in turn, quickly impacts the price of the stocks, the wealth of investors and their spending patterns.

     The probability of a recession by early next year is small.  Even the most pessimistic analyst put the probability no higher than about 30 percent.  However, recent events have caused many to realize that prosperity can be a very fragile situation and that even the mighty U.S. economy is subject to outside forces and events.