Inflation has been a hot topic lately. I’ve seen a lot of claims that President Biden’s economic policies will usher in a new age of runaway inflation that will eat away at the value of the dollar and erode the purchasing power of American paychecks. If this sounds familiar, it’s because the same predictions were made in 2009 when Barack Obama became president. I should know. I was one of the people making those predictions back then.
I looked back to my blog and found a piece from February 2009 in which I made 20 predictions for the Obama presidency. Reading over my predictions, I got about eight out of 20 (at least arguably) right. Forty percent isn’t great, but, as political forecasts go, it isn’t horrible either. Nevertheless, I don’t think you’ll see many other writers admitting to a 40 percent accuracy rate, much less calling attention to it.
Number three on the list was one that I got wrong: “Massive government spending will create high inflation as the government prints money to pay its debts.” I was right about the massive government spending, but the inflation never materialized.
The chart nearby shows a brief spike in inflation that peaked in 2011, but this spike only returned the inflation rate near to the level seen prior to the Great Recession. Throughout Obama’s tenure, the inflation rate remained below the pre-recession level and well below the 1980 peak of 13.55 percent.
I wasn’t the only one who expected inflation. I remember seeing a man at a 2009 Tea Party rally wearing a button that said, “Welcome back, Carter.” Many economists smarter than I made similar forecasts so what went wrong? Or maybe I should ask what went right?
To begin with, what is inflation? “Inflation” is variously defined as “a situation of rising prices in the economy” and as “the decline of purchasing power of a given currency over time.” Both definitions are correct but approach the problem from different directions.
Similarly, there are two flavors of inflation. The rising prices that cause purchasing power to decline can be caused by rising demand (pull) or rising costs (push).
Inflation is measured by tracking the value of collections of prices called “indexes.” One of the most common measures of inflation is the Consumer Price Index (CPI), but there are others. The Personal Consumption Expenditures Price Index (PCE) is another frequently cited US measure of inflation. Inflation statistics are narrowed further by stripping out volatile food and energy prices to give “core” inflation numbers.
A Marketwatch article from 2017 noted that Obama-era inflation was even lower than the two percent target set by the Fed and reported that a study by Fed economists had found that the lower-than-expected inflation was due to slower increases in health care spending, a factor that was attributed to the Affordable Care Act’s downward pressure on Medicare spending. Even with healthcare spending at levels from the mid-2000s, the inflation rate would have only been about two percent despite the Obama-era Fed’s policy of quantitative easing.
Quantitative easing is a process by which the Fed purchases government bonds, which in turn expands the money supply and injects money into the economy. In theory, increasing the supply of money would decrease its value and correspondingly increase inflation, but this obviously did not happen.
As I looked at the origins of the Great Inflation of the 1960s and 1970s, I realized that the Obama Fed’s monetary policy was very similar to the inflationary policies of that era. Back then, the Fed, during the Nixon Administration, dramatically increased the money supply with cheap money in an attempt to keep unemployment low, as Investopedia explains. This sounds a lot like the near-zero interest rates of the Obama and Trump Administrations, yet neither recent president’s policies resulted in inflation.
In fact, as Paul Krugman told to Business Insider a few days ago, the Fed “kind of screwed up” over the past few years by keeping inflation too low. The Fed had a two percent target for inflation that it was not able to maintain.
“We have an economy with a low neutral real interest rate, which means, in order to have room to fight recessions when they happen, you actually want to have more inflation in the system,” Krugman explained.
Often, the Fed fights downturns by reducing interest rates and injecting money into the economy, but that is difficult to do if rates are already low. Central banks in Europe and Japan have already experimented with negative interest rates, but the Federal Reserve has yet to do so.
An important point here is that I and many others were wrong in 2009. If we don't understand why our predictions of inflation were wrong back then, we can't confidently predict runaway inflation now. If we're intellectually honest, we should be seeking to understand why we were wrong.
Those sounding the alarm on inflation should be asked to explain why the deficit spending and near-zero interest rate policies of Barack Obama and Donald Trump did not produce a resurgence of Nixonian inflation. If it cannot be explained why the Biden Administration is different from the Obama and Trump Administrations, there seems little reason to be alarmed over Joe Biden’s continuation of similar policies (at least with regard to inflation, spending more than you can repay is not a good policy in any case).
There seem to be multiple answers (or at least multiple guesses) to that question. We do know that the Great Recession seems to have altered the relationship between employment and inflation. Among the suggested explanations for the unexpected lack of inflation are increased globalization, different spending patterns established by new technology, slower wage growth due to changing labor markets, and even changes in the way economists measure inflation.
In 2018, the St. Louis Fed opined, “The new sharing economy and the demographic transition come up as the most likely explanations.”
So, will Joe Biden’s economic policies usher in a new era of runaway inflation? My guess is probably not, although some increase in inflation is likely after a pandemic year that saw almost zero inflation (and when deflation was a real risk). As the economy comes roaring back, it is to be expected that rising demand will cause some inflationary pressure at least temporarily as did the recovery from the Great Recession.
This is especially true since Biden’s prospects of getting much of his agenda through Congress don’t look very bright without eliminating the filibuster, and, as we’ve established, that isn’t going to happen anytime soon. If Republicans block Biden’s agenda then he can’t very well crash the economy, run up the debt, and fuel inflation, can he?
The Biden years will probably open with an economic boom as the pandemic fades. Afterward, we are likely to return to the slow, steady growth that we enjoyed under the big-spending administrations of both Barack Obama and Donald Trump ceteris paribus, as my economics professors always hedged… unless we experience some other unforeseen crisis that derails the economy once again.
As Krugman admitted, no one really knows where the economy is headed at this point.
“There's the cliche about uncharted territory and all that, but it really is,” he said. “Nothing like this has ever happened in the record.”
I’m a child of the early ‘70s. As such, while reading about the inflation of the ‘70s, I searched my memory to see what I remembered from those days about the topic.
The answer is not much. That’s to be expected since I was in elementary school at the time. I was paying no bills and making very few transactions in those days so my main connection to ‘70s inflation was watching the price of the Cokes we bought at recess rise.
In second grade, a glass bottle of Coke (I still think they taste better in a cold, glass bottle) from the school vending machine cost 25 cents. By the time I was a sixth grader, Cokes were 50 cents, having paused along the way at 35 cents. Today, Cokes seem to have cost $2 or so for about the past decade.
I do remember other events from the ‘70s such as sitting in long gas lines, not having a car seat, Jimmy Carter’s inaugural parade, and the Iranian hostage crisis, but not inflation.
Inflation wasn’t something you could see unless you had some comprehension of finance. I’m interested in what our readers might remember of their experiences with inflation.
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