The Fed is winning its war on inflation — and it means America could avoid a painful recession

• The Consumer Price Index, which measures inflation, plunged to 5.0% year-over-year in March.
• It's a slowdown from the February's 6.0% reading, and it shows the Fed's war on inflation is working.

Things are looking pretty good for the nation's central bank — and Americans' wallets.

On Wednesday, a new report from the Bureau of Labor Statistics found inflation fell by a whole percentage point based on the Consumer Price Index (CPI). CPI, one measure of inflation, plunged from a year-over-year change of 6.0% in February to a year-over-year change of 5.0% in March. That 5.0% inflation rate is the lowest since May 2021.

This is great news for the Federal Reserve, as it continues its work to get the country back to its target 2% inflation level. While the US still has a long way to go in reaching that goal, the latest economic data shows that the Fed's continued interest rate hikes — most recently a 25 basis point increase in March — are working.

The PCE price index is another measure of inflation that the Fed closely watches. That has offered promising signs as well. This index saw a cooler month-over-month change in February compared to January, and year-over-year changes also show for the most part this inflation measure has been falling.

The Fed has also been looking for signs of labor market tightening, and it may be seeing those as well. The US added 236,000 jobs in March, which is a smaller gain than the months prior, and that slowdown to a still-strong but not overheated job market is what the central bank has been seeking.

"Even if it's moderating or slowing down, the labor market's still moving at a brisk pace," Nick Bunker, economic research director for North America at Indeed Hiring Lab, told Insider.

It's clear the economy is heading in the right direction, even as Fed Chair Jerome Powell has faced criticism from Democratic lawmakers over his continued interest rate hikes, and their potential to trigger job losses and an eventual recession. Following the March increase, Massachusetts Sen. Elizabeth Warren, for example, wrote on Twitter that Powell "made a mistake not pausing its extreme interest rate hikes."

"I've warned for months that the Fed's current path risks throwing millions of Americans out of work," she said. "We have many tools to fight inflation without pushing the economy off a cliff."

But Powell, in messaging he has maintained throughout the pandemic, said during the March press conference that he won't be deterred from his goal of getting inflation down "because we know in the longer run that that is the thing that will most benefit the people we serve."

While the Fed isn't planning on cutting interest rates this year, the latest economic data is a hint that a pause could be on the horizon. Chicago Fed President Austan Goolsbee told the Economic Club of Chicago on Tuesday that following the "financial stress" from Silicon Valley Bank's failure, "the right monetary approach calls for prudence and patience."

"Given how uncertainty abounds about where these financial headwinds are going, I think we need to be cautious," he said. "We should gather further data and be careful about raising rates too aggressively until we see how much work the headwinds are doing for us in getting down inflation."

The bank's collapse amplified Powell critics' calls to pause interest rate hikes because of the economic uncertainty the debacle prompted. While Powell said the banking system "is sound and resilient," the aftermath of the collapse could be "the equivalent of a rate hike, or perhaps more than that" because of likely tightening of credit conditions for businesses and families.

To be sure, while the overall CPI change for March was great news, housing prices and apartment rents are still rising at a high rate. Meanwhile, the index for all items except food and energy, or core CPI, saw a slightly higher year-over-year increase in March than in February, powered in large part by those rising shelter prices.

As always, uncertainty is the name of the game. The Silicon Valley Bank collapse could make financial conditions tougher, slowing borrowing and spending for businesses and consumers alike. That along with too-high shelter and core inflation possibly keeping the Fed in a rate-hiking mindset means a recession isn't completely off the books.

But still, the Fed is getting the data it needs to back a potential pause on interest rate increases — and it's looking a lot more likely that a severe economic downturn can be avoided, after all.