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Why talk about inflation?
Fears about inflation are as predictable in macro as the sun rising in the east and setting in the west, albeit without any of the beauty. Here we go again.
This morning I watched the Larry Summers and Paul Krugman conversation, “Will the Biden Relief Package Lead to Inflation.” I’m doing research for a piece on why Larry is wrong and we need the $1.9 trillion relief package.
Handwringing over inflation always is like an evil Groundhog’s Day. In fact, early in the Covid crisis, we heard about inflation risks too. After one such interview with Olivier Blanchard, I lost it and wrote a macromom blog post in May, “Why talk about inflation?” Sadly, it’s relevant again, so I reprinted it below with light editing.
[Note, the post is more fiery than I aspire to be on Substack. If you find it too fiery, you will be happy to know that I got scolded for it. If you want less fire, read my opinion piece at the New York Times about inflation fears and the Fed. If you want more fire, read my macromom blog or follow me on Twitter. Something for everyone.]
“Why talk about inflation?”
May 25, 2020
Prices will not spike on a sustained basis in the United States for years, maybe decades. In fact, they are falling at record pace. So why talk about inflation? Why risk an economic depression and a painfully slow recovery over the improbable? [Update: in May, when I wrote this post, we’d had some negative inflation readings and economy was in a bad place. The $2.2 trillion CARES Act helped a lot. I’m not worried about deflation now but I am still about a too slow recovery without more relief.]
The obsession with inflation is here again. Some members of Congress, market analysts, and economists are forcing the debate. Pure politics. They did not learn from the Great Recession. They did not learn from the Great Depression. They do not admit their past errors, and they will sink us again.
Ten years ago, 23 economists penned an “Open Letter to Ben Bernanke.” They told then Federal Reserve Chair that its accommodative policies risked ”currency debasement and inflation.” I remember that stupid letter as a macro forecaster at the Board. How could they? One year after the recession ended, when consumers , were struggling to come back. When the letter ran the unemployment rate was nearly 10%. The Fed stayed the course to help Wall Street: they bought more assets; keep interest rates low; and stock prices rose rapidly. (The kind of inflation that the wealthy like.) Political risks and inflation fears stopped the Fed from saving Main Street. They did not have the courage to act.
The letter writers were prominent then and remain on the scene. Among them, John Taylor, namesake of a rule for monetary policy; Kevin Hassett, a key adviser to President Trump now; David Malpass a former Treasury and World Bank official in this Administration; and Kevin Warsh, an integral actor in the Federal Reserve bailouts in the financial crisis. They were wrong. Inflation never exceeded the Fed’s target of 2%. The recovery dragged on for years. No surprise: they never admitted their error. They did not learn.
Fast forward to today and the inflation posse is back. They are peddling the same tired inflation fears by retrofitting them to Covid-19. They claim that with many workers furloughed and businesses closed that money from Congress will overheat our economy, causing prices to shoot up. Too little to buy and too much deficit spending. My life in past three months [update: now it’s past twelve months] is nonstop shouting match, trying to convince others that we have the “mother of all demand shocks.” More deficit spending, trillions more, is all the stands between us a depression [a very long recovery for all].
Inflation fears are ideology not economics. None of the signers of the 2010 letter sounded the alarms in 2017 when President Trump’s massive tax cut blew out the federal debt. Instead, they promised that lower taxes would bring growth and tax revenues, leaning on the flimsy Laffer curve. Wrong. Covid-19 is their new crutch, rebranded it as a supply shock. Wrong and dangerous.
What are the facts? Consumer prices, excluding food and energy, are falling. They will tell you official statistics “might be meaningless” today. What? The personal consumption expenditures index, the Federal Reserves target series, adjusts its weights on goods and services as consumers change what they buy. Decades ago US statistical agencies addressed many mismeasurement concerns of the Boskin Commission in 1996. (Same Michael Boskin who signed the inflationist letter in 2010.)
The facts are the facts. Inflationists ignore the facts. Americans pay the price.
Many more people than the signers of the 2010 letter are sounding the alarm now. Economists across the profession are joining in. Last week Olivier Blanchard, the former chief economist at the International Monetary Fund, started asking questions. He offered three ways that inflation “might surprise on the upside:” soaring public debt-to-GDP ratios (discredited trope); jump in interest rates (after declining for decades); and fiscal policy overriding monetary policy (Fed cannot do it alone, listen to Jay Powell). Of course, Blanchard stands by this intellectual exercise. To be clear, most of his arguments in the piece were against inflation. Even so, after a decade answering questions as a staff economist at the Federal Reserve, I know that the questions we ask are a window to our thinking.
Tyler Cowen, the Director of the Mercatus Center, applauded the Financial Times piece and he said we should worry about inflation now. He took it further and castigated economists who push back as “dogmatic” and “yappers.” So goes the debate among macroeconomist men. So goes the repeat of the Great Recession.
We are in crisis and far from overheating. Over 36 million and counting claimed jobless benefits since March. At 20% unemployment and with family income in free fall, wage inflation is distant. In fact, 2019 with unemployment at or below 4% led to moderate wage growth. inflation never made it to 2%. I am watching the train wreck of the Great Recession again and it hurts. I am terrified that we are falling into a deflationary spiral [note, not my forecast now], a brewing economics that the Fed cannot fix [note: remains true Fed can’t get a recovery without Congress].
Basically, every defunct model of economics is rearing its ugly head. Larry Summers a few days ago, drew attention to to how the unemployed are spending their time at home. Unemployed men “drinking beer, playing video games, and watching 10 hours of TV a day” will not be ready to return to work. It’s as outrageous as his initial “Cape-Cod in winter” description of the Covid crisis.
None of these “questions” about inflation risks are new. I listened to them for years. With hundreds of economists at the Board, I spent countless hours after the Great Recession on memos documenting weak demand and explaining why inflationists were wrong. Six years ago, our inflation staff experts told the Federal Reserve officials that they would not achieve their inflation target without more effort. The staff told them trend inflation was below 2%. They did not listen. Year after year Fed officials expected inflation to rise to 2%. Wrong.
Members of the economics profession—those who signed the open letter in 2010 and many who did not—are falling into the trap of inflation ideology now. It is intellectually defensible to ask questions and to use abstract models to think through the economy. It is inexcusable to use falsified models. Bad models cause suffering. Bad models give bad advice to Congress and the President. They will cut off relief this summer.
Wall Street over Main Street again. Economists worrying about inflation, again.