Category Archives: Monetary Theory

Senate Shelves Build Back Better Spending Bill, For Now

The Senate will not vote on the Build Back Better (BBB) spending bill this year, though they might take it up again next year. It does not have 50 votes without Sen. Joe Manchin’s (D-WV) support, which appears not to be forthcoming. This is a good thing for two reasons. One is inflation. The other is that Gross Domestic Product (GDP) and unemployment numbers are well on their way to pre-pandemic levels. A stimulus bill was never needed in the first place. There are policies Congress and state governments should pursue, but more deficit spending is not one of them.

Monetary policy has a much bigger effect on inflation than does fiscal policy, such as stimulus bills. Even so, Build Back Better would likely have added between a quarter and a half a percentage point of inflation on top of what we are seeing now. And it might have lasted for a decade or more, depending on how many of its temporary spending programs would have later been made permanent.

Considering that the Federal Reserve has traditionally targeted 2 percent inflation, BBB would have eaten up a big chunk of its usual inflation “budget.” Inflation is currently at 6.8 percent, the highest since 1982. The Federal Reserve today announced it would taper money supply growth. It will slow down a bond purchasing program and end it altogether in March, and will likely enact a series of up to three interest rate increases during 2022.

Since money supply growth is inflation’s biggest component, high inflation will be with us well into 2022, no matter what Congress does. But BBB-caused inflation on top of that would have made a bad problem even worse.

Manchin, and likely other Senate Democrats, may realize this is not a good look going into the midterm elections. President Jimmy Carter made important accomplishments in trucking and airline deregulation, and he appointed Paul Volcker as Federal Reserve chair, who ultimately slowed down the monetary printing press. But in the popular mind, Carter’s legacy is stagflation. If President Biden wants to avoid sharing Carter’s legacy, he should be quietly happy that his signature legislation is now on ice. He should see to it that it stays that way.

Biden should also avoid interfering with the Fed as it works to taper down today’s inflation. Since inflation can spark a temporary boom, politicians have always been tempted to put pressure on the Fed to goose the numbers a little leading into an election. (Lyndon Johnson and Richard Nixon were particularly egregious in this regard, as Peter J. Boettke, Alexander William Salter, and Daniel J. Smith argue in their book Money and the Rule of Law.) But the tradeoff of an inflationary boom now is a bust later.

There is no guarantee that Congress and President Biden will learn the right lesson. When inflation’s temporary stimulus effect wears off, policy makers are tempted to reach for the bottle again, rather than risk a hangover recession and hurt their chances for another term in office. This short-term thinking is what led to the 1970s stagflation. Had the process continued longer than it did, the result could have been Argentina-esque. It is crucial that today, Congress and President Biden respect the Fed’s nominal independence.

Fortunately, inflation is unpopular with the public. And economic fundamentals are in reasonably good shape, which means there is no need for inflationary stimulus. People hunkered down when COVID-19 hit, and are opening up when they feel safe—and when regulations allow them to. We aren’t through it yet, and it’s too early to tell how much effect the omicron variant will have. But the COVID recession had no stock market crash, no financial crisis, no housing bubble, no savings and loan scandal, or any other underlying economic illness. Traditional Keynesian stimulus does not apply to today’s economy. Build Back Better might be the biggest example of a #NeverNeeded policy yet.

The best thing that can be said about Build Back Better is that it was fighting the last battle, not the current one. Less charitably, Build Back Better was essentially a Democratic version of the PATRIOT Act, in which policy makers used a crisis as an excuse to put a bunch of longstanding wish-list items into a bill, and then market it as a must-pass crisis response. Not only would BBB have increased inflation, it would have used up more than $1 trillion dollars of resources that almost certainly have better uses than paying political favors—most of them COVID-unrelated.

GDP is already back to where it would have been had COVID never happened. Today’s ultra-low 4.2 percent unemployment rate looks better than it is, because many people are staying out of workforce, either for safety reasons or because they are content living off of savings for a little while longer. But even accounting for that, employment is in decent shape, and labor force participation is trending back to pre-COVID levels. Job openings are there for the taking—though rapid inflation is making it difficult for employers and employees to figure out fair wage rates.

Congress will instead turn its attention to other issues, such as voting rights. But it turns out there are policies Congress can pursue to fight inflation from the supply side. Money is growing faster than goods and services, causing higher prices. Removing regulatory obstacles to making goods and services will help to bring money and goods back into balance.

President Trump doubled tariffs, and President Biden is pursuing nearly identical trade policies. Scrapping those barriers alone would help unclog supply networks while lowering prices on hundreds of billions of dollars’ worth of goods, from big items like cars and houses to children’s toys and clothing.

There is no good reason for truckers to have a minimum age of 21 during a shortage when there are 18-year-olds perfectly able to do the job well.

U.S. ports operate at roughly half the efficiency of more modern ports like Rotterdam, which is open 24/7 and is heavily automated. While there isn’t much Congress can do about this, the biggest obstacle here are labor union contracts. These need to be modernized to avoid another supply network crisis and keep the U.S. shipping industry up to global standards. However, Congress can repeal the 1920 Jones Act, which attempts to protect the U.S. shipping industry but instead has reduced it to an uncompetitive rump of its former self.

Similar Buy American-style regulations requiring U.S.-flagged ships to dredge U.S. ports are why many ports are badly behind on dredging projects, and are unable to host many modern container ships.

Over a quarter of U.S. jobs now require some sort of occupational license from the government. Sixty years ago, it was 5 percent. Federal, state, and local governments need to get rid of unnecessary licenses that prevent willing people from creating more goods and services. Besides being the right thing to do, it would help to fight inflation.

None of these policies has the attention-grabbing cachet of a trillion-dollar piece of legislation. But unlike the BBB, they would stimulate new economic growth and help get inflation back under control.

On the Radio: Inflation

Today at 5:30 ET, I will appear on the Lars Larson Show to talk about inflation.

I’ll post a link to audio afterwards if it’s available.

Inflation Increases to 6.8 percent, Misery Index Reaches 11

October’s inflation reading was the highest since the recession of 1991. November’s is the highest since the 1982 recession, at an annualized 6.8 percent. The reason inflation is usually highest during recessions is because governments attempt to restart growth through a combination of monetary and fiscal policy. It is troubling that today’s inflation is happening while the economy is growing and unemployment is low.

In fact, the misery index is now in double digits, which rarely happens outside of recessions. The misery index is the inflation rate plus the unemployment rate—economist Arthur Okun came up with it as an easy-to-use statistic for President Lyndon Johnson’s benefit, and it remained a key statistic throughout the stagflationary 1970s. It may be time to dust it off again.

While unemployment is a very low 4.2 percent, when combined with 6.8 percent inflation, the misery index currently stands at 11. For context, its all-time high was 21.9 in June 1980. It was below 5 for a good chunk of the 1950s, and was at 5.3 in April 2015. See a historical chart from the St. Louis Federal Reserve’s FRED database here.

Inflation happens when the money supply grows faster than the supply of goods and services, as I explained earlier. In today’s case, the COVID-19 pandemic shut down large swathes of the economy for an extended period. Even if the money supply had remained stable, the supply of goods and services temporarily went down. The effects are still being felt in today’s supply chain problems.

But economic fundamentals remained healthy. There was no financial crisis or popped housing bubble. People hunkered down for a while, and are in the process of coming back. This is why COVID-era growth has bounced back in close tandem with increased vaccination rates and decreased caseloads. When people feel safe to open back up, they do—and nothing is stopping them except for bad public policy.

Both Congress and President Biden responded to a different type of recession with the same tools. The result is high inflation during a period of growth. The solution is to spend less and get money supply growth back in sync with growth in goods and services. Instead, Congress continues to spend at a record rate, with more likely on the way. The Fed has indicated that it will taper back monetary growth, but not until next year.

Policy makers are unlikely to do the right thing on the money side. But they can help the goods and services side by removing trade barriers, getting rid of unneeded occupational licenses, speeding up years-long permit processes, repealing the shipping cost-raising Jones Act, liberalizing trucking regulations, and other deregulatory measures. These would spark growth while helping to tame inflation—and without adding to the deficit.

Fed Chairman Powell Should Prioritize Getting Inflation Under Control

This statement originally appeared on cei.org.

President Biden has re-nominated Jerome Powell to head the Federal Reserve, and CEI Senior Fellow Ryan Young expressed hope that Powell will make the politically tough decisions needed to get inflation back under control.

Statement by CEI Senior Fellow Ryan Young:

“Getting inflation back under control is a top priority. Jerome Powell’s renomination sends a needed message of stability. President Biden did not nominate a yes-man who will do as he’s told, though some of Biden’s other nominees may yet fill that role. Under the circumstances, this news is about as good as could be expected.

“Inflation is what happens when too much currency is chasing too few goods and services. Record government spending deficits are adding to inflation and will be made worse by the infrastructure and reconciliation bills. If Chairman Powell raises interest rates to tighten the money supply, which he should, those debts will become more expensive for the government to repay. But this will raise the ire of the White House and Capitol Hill. Making matters worse, politicians also generally favor looser monetary policy heading into an election. The Fed’s independence is always under attack, and the stakes are especially high during the COVID economic crisis.

“Fighting inflation also means removing trade, labor, and energy regulations that are clogging supply networks and preventing goods and services from being created in the first place. Chairman Powell has nothing to do with those policies, but he is still tasked with fighting their inflationary effects. He is not being set up for success, but President Biden could have done far worse.”

On the Radio: Inflation

Earlier this week I was on the Lars Larson show to talk about inflation. The audio is here.

I also appeared on the Dave Elswick show on the same topic. The audio is here, starting around five minutes in.

September Inflation Remains High and Fixable

Inflation remains high, with September’s numbers coming in at a 5.4 percent annualized rate, the highest number in a decade. The Federal Reserve’s target is 2 percent. While this is not a return to Carter-era stagflation, it is cause for concern. The economic recovery is difficult enough as it is, and high inflation only makes it harder. Inflation not only means higher prices for consumers, it means higher input prices for businesses, and is contributing to supply chain difficulties. That means consumers are facing price increases due to supply-and-demand factors, in addition to inflation.

Inflation is what happens when the amount of money circulating in the economy grows faster than the amount of goods and services. Keeping inflation in check means keeping those numbers in sync. Today’s record deficit spending is pushing them apart, by increasing monetary flows without necessarily increasing the amount of wealth being created. The upcoming trillion-dollar infrastructure bill, $3.5 trillion reconciliation bill, and $6 trillion annual budget will only make matters worse.

The Fed can help by raising interest rates, which it has indicated it might do early next year. Although politically independent, the Fed will likely face political pressure to keep rates low. Low rates can have a temporary, short-term stimulus effect, though at the price of a bust later. And there are the mid-term elections next year, likely before the bill would come due. Higher rates also make the government’s debt payments more expensive, making the big spending bills more difficult to pass.

If Washington wants to get inflation back to target levels, it needs to spend less while removing obstacles to wealth creation. In addition to fiscal restraint and respecting the Fed’s independence, that means easing back on permits, licenses, trade barriers, and financial regulations that are burdening supply chains and making it difficult for businesses to hire workers and create more goods and services.

Latest Producer Price Index Indicates Inflation Too High

This press release was originally posted on cei.org.

The government’s latest numbers on average changes in prices, as measured by the Producer Price Index (PPI), are up at an annualized rate of 8.3 percent – higher than the Consumer Price Index’s latest reading of 5.4 percent.

CEI Senior Fellow Ryan Young says the discouraging numbers indicate Congress should change course.

“The PPI is often seen as a leading indicator of what is to come, and today’s high reading indicates inflation is much higher than the Fed’s longtime target inflation rate of about 2 percent. High inflation is bad news for the near future. While a return to 1970s-era stagflation remains unlikely because the only damper on an otherwise-sound economy is the pandemic, today’s inflation is still cause for concern because policymakers may not learn the right lessons.

“The main causes of today’s inflation are heavy deficit spending and a loose Federal Reserve policy. The Federal Reserve indicated it will dial things back a bit on its end starting next year, but since there is a midterm election coming up, it will likely face political pressure to keep interests low. On spending, both parties are proving hopeless.

“Today’s inflation is preventable. People are opening up to the extent they feel safe doing so. Congress’ ongoing spending binge will have little or no effect on people’s safety decisions. Policymakers should instead encourage prudence in dealing with COVID risks without risking backlash by being too heavy-handed about it. The most useful actions policymakers could take would be passing non-spending stimulus measures such as loosening regulations on occupational licensing, trade restrictions, and excessive permit and paperwork burdens.”

New Inflation Numbers: Still High, Still Fixable

July’s inflation numbers are out. The annualized Consumer Price Index came in at 5.4 percent, compared to a 2 percent target. The month-to-month increase was 0.5 percent, an improvement over June’s 0.9 percent. While a return to 1970s stagflation is almost certainly not in the cards, inflation is still too high. Congress and President Biden should act now to keep it in check.

This appears unlikely at the moment. As of this writing, their latest trillion-dollar spending bill is in the process of clearing the Senate, though it will likely face friction and delay in the House. Assuming the bill does pass, it will nudge inflation upwards in future months while doing little to help the economy. Fiscal discipline in Washington is currently about as popular as the plague, but that does not change the need to reduce deficit spending. Economic recovery depends on increasing vaccination rates, not more politically motivated spending.

Politicians also need to respect the Federal Reserve’s independence. Higher interest rates are necessary to keep inflation low—but they also make government debt more expensive. President Biden and other political officials should resist the urge to pressure the Fed to keep rates low, and should spend less instead. Political meddling in central banks is how inflationary debacles like in Argentina happen. While the Fed has its flaws, it can do a good job of keeping inflation low—if it’s allowed to.

Other price increases have nothing to do with inflation (see my recent post on what inflation is, and what it isn’t). These price increases also deserve attention.

Trade barriers from both the Trump and the Biden administrations are upsetting supply chains. Above and beyond inflation, protectionist trade policies are increasing prices for cars and houses, and are largely responsible for computer chip shortages. Occupational licenses are keeping honest people out of work. Excessive regulations and permit requirements are blocking new ideas and projects that could push product prices down. Financial regulations are keeping capital away from small businesses that could use to it grow and compete against bigger companies. Energy policy restrictions are raising prices across the economy.

It is not enough to do simply do something. It is important to do the right things. Today’s policy mistakes are likely not enough to topple the COVID-19 crisis recovery, but they will slow it down, for no good reason. Fortunately, there are lots of sound policies that can hold down inflation while boosting the COVID recovery. Many of them are in CEI’s most recent Agenda for Congress.

CPI Inflation Indicator Hits 5 Percent: Not Stagflation, But a Useful Warning

The Consumer Price Index (CPI) for May came out this morning. At 5 percent, it was higher than expected. CPI has its flaws as an indicator, but the fact that it is now the highest it has been since the 2008 financial crisis still says something useful. We’re not going back to 1970s stagflation, so nobody needs to freak out, but today’s numbers are a warning. Policy makers should listen.

Trillions of dollars of proposed new deficit spending would further increase inflation, and would mostly stimulate the politically connected. The Federal Reserve should resist political pressure to further flood the money supply in hopes of stimulating a faster COVID recovery.

The timing is also off. Most projects would not kick in until the economy is already mostly recovered anyway. While there is still a way to go, unemployment is already below 6 percent, GDP is working its way back to trend, and the return of in-person schooling this fall will allow more parents to reenter the workforce. Continued progress depends on vaccination rates, not new political projects.

Rather than producing more cash, Congress should enable more production of actual goods and services with a deregulatory stimulus, lowering of trade barriers, and incentives for more vaccinations. Almost a third of occupations now require some sort of license. These keep thousands of would-be small entrepreneurs out of the market, and make it harder for workers to find or change jobs. Financial regulations make it hard for startups and struggling businesses to find capital to grow or stay open—and higher inflation would worsen the problem. Endless permits and years-long environmental reviews are blocking infrastructure projects that could already be underway.

Tariffs left over from the Trump administration, along with new ones the Biden administration is proposing, are making cars and houses more expensive at a lousy time, and could hit billions of dollars of other goods this holiday shopping season.

Vaccination rates are the single most important factor for reopening the economy. People are itching to get back to normal, but first they need to feel safe. Remember, people didn’t wait for governors’ orders to lock down in the first place. Opening back up is also a decision people are making for themselves. Lifting government restrictions might have some impact at the margin. Politicians are not in the driver’s seat here, but there are still things they can do. Some states have tried incentive programs, like lottery drawings and free goods. These are already having a positive impact in communities, saving lives and letting people open back up. More of these would speed the process more than inflation would.

An inflationary boost is tempting for politicians because it is easy. It takes hard work to make substantive reforms to regulation and trade policy and to reach out to vaccine-hesitant people and ask them to do the right thing. But what is worthwhile is rarely easy. While today’s inflation news is not doom-and-gloom, it is cause for concern. We are at an inflection point. Will Congress and President Biden do the right thing?

For more, see my recent explainer on how inflation works, and my recent op-ed on how to stimulate the economy without new spending.

In the News: Inflation

About a week ago, I was quoted in another Center Square story on inflation.