Comment | After all, the economy is in a good place

US economic policy in 2021 faced a firestorm of criticism from many economists. And I’m not just talking about the Republican faithful, who always predict disaster when a Democrat moves into the White House. Even democratic economists or relatively apolitical technocrats were harsh in their condemnations.

Thus Larry Summers, who served as the Obama administration’s chief economist, Destroyed It says President Biden’s spending bills are „the least responsible macroeconomic policy we’ve had in the last 40 years.” Mohamed El-Erian, an economist who is generally cautious in his pronouncements, said the Federal Reserve Historical error By failing to raise interest rates in 2021.

Underlying these harsh words is not just the belief that we will pass through a period of high inflation—which the critics got right, I got wrong—but that bringing inflation back under control will be painful, probably involving many years. Very high unemployment.

But the economy has defied that dire forecast. Inflation has moderated despite continued strength in employment. If the policy choices of 2021 had any lasting impact, it is not visible in the data. So let’s talk about where the economy is now, and ask what the early policy of the Biden administration might have done, what lasting damage.

The first is that we have experienced significant progress against inflation, which seems almost surreal even to an optimist like me. A good way to look at the good news is to compare some standard estimates of „core” inflation (that is, measures that try to extract the signal from the noise) over different time horizons. Here are two measures for the central bank’s preferred inflation indicator, personal consumption expenditure inflation—excluding volatile food and energy prices (bottom left) and excluding all major price movements (bottom right):

Both give almost the same result: Inflation is below 3 percent in the last three months, lower than the rate in the previous six months, and lower than last year’s rate. You expect inflation to fall steadily toward the central bank’s 2 percent target.

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I often see reports that while we have made progress against inflation, there is still a lot of work to be done. But the data says we’re almost there, and it seems to me that the inflation pessimists are almost desperate to find justifications for their pessimism.

And all this progress has been achieved at no visible cost in terms of jobs. In fact, employment rebounded from the Covid slump at breakneck speed. Here’s a measure of the employment percentage of adults ages 25 to 54, as of January 2020, compared to growth since the last recession began in December 2007:

The last time it took more than a decade to achieve a full employment recovery. This time we were above pre-Covid employment in less than three years. Inflation doesn’t seem to require any sacrifice, with many predicting a high „sacrificial rate” — lots of unemployment — to keep inflation down.

Still, isn’t inflation eating away at workers’ wages? Actually, no.

Pay details have been tricky over the past few years. During the worst pandemic shutdowns, job losses were concentrated among low-paid service workers, causing average wages to rise because poor wages were not part of the average, and then things returned to normal. At this point, however, most of these effects may be behind us. The average worker’s real wages — average hourly earnings divided by consumer prices — are higher now than they were before the pandemic. The prices are high, but they are outdone by the pay:

Today’s economy seems to be in good shape. Inflation picked up in 2021-2022, but it appears to have been temporary. So did policymakers really make a historic mistake by failing to act sooner against inflation?

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In fact, there is a good economic case that the temporary burst of inflation is just what the doctor ordered. The pandemic was a major shock that disrupted supply chains and changed the mix of goods and services consumers demanded. As a result, the prices of some commodities had to rise relative to the prices of others. And it was easier to achieve this adjustment in relative prices by raising the prices of scarce goods than by lowering the prices of scarce goods. A limited burst of inflation, like the one that followed World War II, is arguably the right answer—at least in strict economic terms.

If you want to argue that policymakers made a historic mistake in 2021, I think the case has to be based on the notion that even temporary inflation caused lasting psychological or even more important political damage.

There is no doubt that public perceptions of the economy are far worse than economic reality. When I first started making this argument, I got a lot of pushback from journalists who argued that the public had good reason to feel bad. At this point, however, it is almost impossible to deny that there is something peculiar about the public’s negative view of a good economy.

There could be many reasons for this disconnect, but one possibility is that the sudden resurgence of inflation shocked Americans accustomed to price stability, and they still haven’t recovered from that shock.

If that is true, the policies of 2021 may be good economics but bad politics. However, this view depends on the extent to which the acceleration of inflation can be attributed to those policies, which is not entirely obvious.

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There are some attempts to model this question, for example Bloomberg Analysis Even if the central bank moves quickly, it suggests it won’t make much of a difference. At this point, however, there is so much disagreement among economic modelers that I don’t think an appeal to model results will convince anyone.

An alternative is to compare inflation in the United States with inflation in other countries that have not engaged in major fiscal stimulus. Critics of US policy point to low inflation in Europe as evidence that excessive stimulus is the problem. At this point we actually have much lower inflation than the Europeans, but to be fair, they have been hit hard by the effects of Russia’s invasion of Ukraine. However, even though European inflation was rising before the invasion and lagged behind that of the United States:

Note that I have been careful to use comparable inflation measures here.

This comparison shows that inflation in the United States was two percentage points higher than in Europe before Ukraine, and its peak might have been two percentage points lower without those expansionary policies. Would that have led to an entirely different public view of the economy? I doubt it.

So, should the financial incentive have been small? Yes. Should the central bank have started raising rates sooner? Yes. Would it have made any difference to the better place we are economically, or the worse place we are politically? Probably not.


June 2022 Loves its talking point again.

Business expectations of future inflation Way down.

So is the percentage of businesses Price increase report.

Inflation Gauges: Beware of noise.


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