Can the Fed Downshift Smoothly?

It's called a soft landing -- when the Federal Reserve tames inflation and tempers an overheating economy's growth by raising interest rates.

It's not easy.

The problem is that when the Fed boosts interest rates, as it has been doing steadily since June, it usually sends the economy into a crash landing. Virtually all recessions since World War II have been preceded by Fed interest rate hikes.

With fresh signs in recent weeks that economic growth is slowing while inflation is heating up, analysts are debating whether the U.S. economy could be gearing up for a repeat performance. Some economists contend that the Fed has less control over the economy this time around, partly because of bulging trade and budget deficits as well as China's growing economic and financial clout.

"I think we're very, very vulnerable now," said Dean Baker, co-director of the Center for Economic and Policy Research in Washington. "The record on engineering soft landings isn't terribly good."

Others think that the Fed just might pull off the soft landing, because the central bank is starting from a better location than it has in the past. Interest rates are still far lower than they were in the last three decades. The central bank, having no intention of causing a recession, could stop raising rates before the hikes trigger a severe downturn, the optimists argue.

"Frequently, the Fed wanted to cause a recession in order to bring down inflation," said Alan Blinder, a former vice chairman of the Fed who teaches at Princeton University. "That's not the case now."

There are many factors other than high interest rates that can cause a recession -- a contraction of the economy -- including chronic unemployment and oil shocks. But economists for years have debated how best to pull off the tricky balancing act between inflation and economic growth.

Analysts generally agree that the Fed must try to keep inflation from getting out of hand. Created in the early 20th century to regulate the nation's money supply, the Fed combats inflation by keeping the economy from overheating. The theory is that if it grows too quickly, prices begin to skyrocket and inflation ends up pushing down consumers' standards of living.

The Fed's chief tool in this mission is its ability to raise interest rates. In the best-case scenario, higher interest rates curb rising prices and take the edge off an expanding economy without destroying it. In the worst-case scenario, higher borrowing costs sock consumer and business spending, sending the expansion into a tailspin that could end in a recession.