“When sorrows come, they come not single spies, but in battalions,” said Claudius in Shakespeare's Hamlet. Stagflation hadn't been invented back in the Bard's day, but, as with much of the man's insights, his description of Ophelia's desperate condition might well serve as a useful piece of modern economic analysis.

The ailing US economy is confronted not by a single threat but by a whole battalion of sorrows on the march that comprises deepening recession and accelerating inflation.

Last week the Government reported that in the year to January consumer prices rose by 4.3 per cent. This is so far above the top end of anybody's definition of price stability as to be more than slightly alarming. The detail of the data showed just how pervasive inflation has become. It goes well beyond the usual suspects of oil and energy-related products and even food.

Last month the prices of three quarters of the goods measured in the official figures rose by more than 2 per cent. This suggests that inflation is more than just spiking in reaction to some short-term cost pressures but is becoming embedded in ways dangerously reminiscent of the late 1960s. That was when the global economy last began a long cycle of high inflation that proved stubbornly hard to conquer, even when demand slumped in the 1970s.

This is why people in the United States are worrying openly about stagflation. The rising inflation trend seems, at least so far, to be impervious to the weakening economy. Even as price pressures have picked up, the signs of recession have proliferated.

In January total employment contracted, house prices and construction continued to fall and business and consumer confidence plummeted. In the first few weeks of February it looks as though manufacturing production may have fallen off a cliff.

All this makes the Federal Reserve's job much harder than it has been in the recent past.

Back in 2001, during the last recession, the US had no serious inflation threat to speak of. The central bank could be as aggressive in stimulating the economy as it wanted. There was virtually no risk that it would generate much inflation. In fact, there was so much slack in the economy that, for at least a year after the Fed had stopped cutting interest rates, the biggest concern of policymakers and markets was deflation - broad-based price declines.

This time the Fed doesn't have that luxury. Frederic Mishkin, a member of the Board of Governors of the Federal Reserve, has been one of the most outspoken proponents of really aggressive monetary policy action to avoid the risks of serious financial dislocation and to shield the economy from its effects. But he has argued that inflation could seriously crimp the Fed's freedom of manoeuvre even in a crisis: “The flexibility to act pre-emptively against a financial disruption presumes that inflation expectations are firmly anchored and unlikely to rise during a period of temporary monetary easing,” he told a conference in New Hampshire this month.

Have inflation expectations lost their moorings in the midst of the present difficulties?

There are various ways of measuring inflation expectations. One of the most useful that economists rely on is the difference between yields on regular Treasury bonds and yields on index-linked Treasuries. The Cleveland branch of the Federal Reserve produces a daily updated estimate of the difference, adjusted for some biases that typically produce slight distortions in the prices of the two securities. The Cleveland index suggests that expectations of future inflation have surged in the past year from 2.2 per cent to 3.4 per cent this week, the highest in a decade.

How much of a constraint will inflation be on the Fed's room to cut rates further? The view at the central bank seems to be divided between economic pessimists who are optimistic about inflation and economic optimists who are pessimistic about inflation.

One side thinks the recession that seems to have the US in its grip will be serious enough that eventually it will create sufficient slack in the economy to weaken price pressures significantly. This group thinks that the downward pressures on demand are bad enough that the Fed should throw caution to the wind and keep cutting rates.

The other side thinks the US will quickly weather the current financial weakness and that the recovery that will quickly begin will only reinforce inflation pressures.

They think that the Fed may have already done enough to produce a robust recovery by the second half of this year and that the central bank should be getting ready to push interest rates back up as quickly as it brought them down. We won't have to wait long to find out which side is correct.

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