OPINION:
Is inflation about to make a political comeback? While there has been debate over whether overheating could be an economic threat, people are ignoring inflation’s equally serious — and in current circumstances, faster — political impact. Inflation could light the fuse on a political powder keg stuffed full by a year of unprecedented chaos.
There has been increasing conversation among policymakers and pundits as to whether inflation concerns are legitimate. Biden officials have dismissed this, or at least discounted it relative to the danger of not doing enough for a recovering economy. Similarly, Federal Reserve Chairman Jerome Powell has defended the central bank’s aggressive actions.
The contrarian corner has been a far lonelier place. Republicans have voiced their reservations, but these have been discounted as partisan politics. More notable have been the critiques of Larry Summers, Treasury secretary under President Clinton and NEC Director under President Obama. In general, the contrarians assert that strong spending measures will soon translate into strong price pressures.
Neglected in this policy debate is the political question that rising prices could put before midterm voters in just 18 months. For most people, inflation simply means prices rising faster than income. They are uninterested in the debate over whether such increases meet economists’ inflation definition.
In economic terms, inflation is a sustained rise in prices resulting from lax monetary policy. In common parlance, it is the situation of too much money chasing too few goods. As always when supply outstrips demand, prices rise.
Inflation’s immediate effect can be mistaken for a growing economy. People having more money seek to put it to use. Artificially induced demand is mistaken for the real thing: In a flash, people feel flush. Over time though, the true cause becomes clear and adverse actions occur.
Interest rates rise to match prices, plus a heightened risk premium to offset now-expected future inflation effects. Businesses fear they will be unable to earn adequate returns to pay increasing financing costs. Wages cannot keep pace with rising prices. And hurt worst are those living on fixed incomes. Over time, everyone loses and the whole economy suffers.
The 1970s are a textbook example of inflation’s prolonged debilitating effect. Known as “stagflation,” it forever ended the misconception that Keynesian pump-priming could beneficially lead to sustained higher economic growth.
The country paid a high price for economic fallacy. The fallacy also inflicted a high political price on those America held responsible. Both Gerald Ford and Jimmy Carter endured back-to-back incumbent presidential losses, something seen only once in the 20th century and unseen since.
Fast forward half a century and current circumstances present an interesting comparison. The federal government has pushed a massive $5.3 trillion in relief money into the economy in just over a year. Additionally, the Federal Reserve has injected roughly an equal amount of liquidity, keeping interest rates at historical lows. The administration is also proposing two more initiatives, one for infrastructure and one for individuals, that could put another $4 trillion or more into the economy over several years.
In the private sector, lockdowns have locked up an enormous $2 trillion cache of savings. Simultaneously, goods are low due to the lagging economy and production’s redirection. Once the economy fully reopens, this massive amount of private sector money will join the federal money already in, or coming into, the system.
The result could be a huge amount of money entering a market with a lagging supply of goods. To the average person, the effect could feel a lot like inflation. In contrast to the 1970s, when inflation pressure built over a long period of time, this new post-COVID confluence could occur extremely rapidly. It would also be occurring right before voters deliver a midterm verdict on Congress.
Public patience is already frayed after 2020’s COVID-19 year. There have been lockdowns, riots and a crisis on the Mexican border. None are yet over. Altogether they leave an impression of chaos and feelings of confusion and resentment.
Coming on top of these other adverse events, inflation would be more than just a symbolic topping, it could be a tipping point. As pervasive as the last year’s other adverse events have seemed, they still have varied locally. COVID-19 has affected regions differently, localities have had very different lockdown policies, riots have occurred in cities and the immigration surge is at the border.
In contrast, inflation would be universal. After a prolonged period of chaos, it would have a whipsaw effect, pulling the recovery rug from under everyone as prices spike. For those imagining America’s year of volatility could be returning to normalcy, instead the volatility could be about to add an entirely new dimension.
• J.T. Young served in the Office of Management and Budget and at the Treasury Department.
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