Why 7% Inflation Today Is Far Different Than in 1982

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The economic problems of the early 80s bear little resemblance to the current challenges

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Upon becoming chairman of the Federal Reserve in 1979, Paul Volcker set out to quell inflation with tough monetary policy. In combination with credit controls, that effort pushed the US into a brief recession in 1980. Then, when the Fed’s benchmark interest rate reached 19% in 1981, a very deep recession began. By the summer of 1982, both inflation and interest rates were falling rapidly. That would typically come after four decades of low-single-digit inflation.

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“We have had dramatic success in reducing inflation,” a Fed official said in August. But Mr Volcker faced other problems: his high interest rates had pushed Mexico into default, sparked the Latin American debt crisis, and unemployment would climb to a post-World War II high of 10.8% that fell. Will go

Unemployment broke that record in the early months of the Covid-19 pandemic in 2020. Since then, it has been falling rapidly as the economy roars back in the face of vaccines, less restrictions on mobility and substantial financial and monetary stimulus. In December, unemployment fell to 3.9%, closing at a 50-year low of 3.5% just before the pandemic.

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Monetary policy could not have been more different then and now. Back in 1982, the Fed was still targeting the money supply, causing interest rates to fluctuate unexpectedly. Today, it largely ignores the money supply, which expanded dramatically as the Fed bought bonds to maintain long-term interest rates. Its main policy target, the federal-funds rate, is close to zero.

Rather than 1982, the last two episodes when inflation reached 7% may have a more useful lesson for today. The first was in 1946. The end of the war had increased demand for consumer goods, and price controls were abolished. Inflation reached around 20% before falling completely in 1947. Today, the consumption pattern has also become distorted and the supply chain has been disrupted by the pandemic.

Inflation also rose above 7% in 1973. Although partially fueled by food and energy (that fall, Arab exporters barred the US for supporting Israel in the Yom Kippur War), it was a continuation of the growth that began in 1966. As today, growth in the 1960s was followed by a long period of low, stable inflation and low unemployment.

Like President Biden today, President Lyndon Johnson initially blamed inflation on industry-specific microeconomic factors. Then-Fed Chairman William McShane Martin, under pressure from Johnson, was late in recognizing that demand was too strong and that public expectations for inflation were becoming uncontrollable.

A major challenge facing current Fed Chairman Jerome Powell is deciding whether today’s inflation is the same with 1946 or 1966. For now, he sees a bit of both. On Tuesday, he blamed inflation on “strong demand and supply constraints” and stressed the risk of expectations going unchecked. The Fed may start raising rates in March.

Mr. Powell also has things that his predecessors lacked, namely his knowledge of experience and a free hand from the president, who has just nominated him for a second term.

Write Greg IP [email protected] . Feather

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