Jerome Powell, chairman of the Federal Reserve. Photo captionChina News Service (China News Service via Getty Ima)
, and one of the biggest risks facing the US economy today is that it will have too much influence on politics.
The term, by the way, was coined by William Keegan to describe Margaret Thatcher's economic policy, but today
refers to a person who constantly demands higher interest rates and more fiscal austerity, whatever the state of the economy.
And those folks just had a good year: the inflation they've been endlessly warning about has finally come true.
In 2021, US policymakers, like many economists, including myself, grossly underestimated the risks of inflation, as they themselves admit.
This frankness, by the way, is in itself refreshing and welcome.
In the 2010s, very few of those who were wrong in predicting a runaway price rally admitted their error.
And what is more important: policy makers are taking steps to right their wrongs.
The budget deficit continues to fall.
The Federal Reserve has begun to raise the interest rates it controls,
and long-term rates that matter to the real economy—particularly mortgages and corporate borrowing costs—have skyrocketed.
These policies virtually guarantee a slowdown in the economy that could be sharp enough to be considered a mild recession.
But a noisy chorus insists that the Fed needs to push even harder, indeed push the US economy into a sustained period of high unemployment akin to the Great Recession of the early 1980s. And there is a real danger that the Fed will be bullied into overreacting.
So let's talk about why calls for more aggressive action by the Federal Reserve are misguided.
First of all, why has inflation gone up so much?
Much of the issue has to do with shocks like rising oil and food prices, disrupted supply chains, and other things that are beyond the control of policymakers.
I am referring to political leaders other than Vladimir Putin, whose invasion of Ukraine has caused serious damage to the world economy.
These non-political disturbances explain why inflation has risen almost everywhere;
for example, in the UK the meter has just hit 9.1%.
Unfortunately, this is not all.
At least in the United States, inflation is not confined to a few troubled sectors;
even measurements that exclude extreme price swings show it to be well above the Fed's 2% target, but well below the numbers you might see in the headlines.
And the breadth of its reach indicates that the combination of high federal spending and easy money has caused the economy to overheat, that is, that we have suffered a classic case of too much money hunting too few goods.
However, as I said, policy makers have already taken strong steps to cool down the economy again.
So why aren't they enough?
The answer I keep hearing is that a tough policy is needed to restore the Fed's credibility.
And, to be fair, there are good reasons to think that credibility is an important factor in keeping inflation in check.
What we don't have are good reasons to think that credibility has been lost.
Economists have long accepted the idea that persistent inflation can be self-perpetuating.
In 1980, for example, almost everyone assumed that rising prices would last indefinitely, and this assumption was reflected in large wage agreements that gave it considerable inertia.
That is why Paul Volcker, then chairman of the Federal Reserve, had to force a severe and widespread slowdown to break the inflationary cycle.
But apart from the
-monetarists , who currently thinks that inflation is going to stay high for a long time (instead of, say, next year?).
Financial markets don't.
On Wednesday, the five-year breakeven rate was just 2.74%.
Some of that reflects expectations of near-term price increases that investors don't think will continue;
the markets anticipate that inflation will disappear.
And what about public opinion in general?
Last month, economists at the Federal Reserve Bank of New York, which conducts regular surveys of consumer expectations, noted that consumers appear to expect inflation "to disappear in the next few years," and that five-year expectations had been "extraordinarily stable."
A few weeks ago, a different survey, conducted by the University of Michigan, showed a rebound in long-term inflation expectations, which had previously been stable.
In contrast, figures from the New York Federal Reserve did not show the same uptick.
And as anyone who works with economic data will tell you, one month's numbers shouldn't be given too much weight, especially if other numbers don't say the same.
To be clear, I am not claiming that these predictions have to be correct.
What they do tell us is that expectations of persistent inflation are not as entrenched as they were in 1980. So it doesn't look like we need Volcker-like crackdowns punishing the economy until the mood improves.
Inflation is a real problem and the Federal Reserve must act tough.
But it would be a tragedy if he listened to those calling for far more containment than the economy appears to need.
is a Nobel laureate in economics.
© The New York Times, 2022. Translation of News Clips.
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