Thursday, May 27, 2021

Larry Summers Doubles Down On His Inflation Prediction

 But somehow becomes vaguer about exactly how this is going to happen and show up, but he wants the Fed to stop it in its track, goshdarnit.  This is in a column appearing in the Washington Post, May 25, "The inflation risk is real."

Well, he does start out by saying that the economic recovery from the pandemic is a good thing, as is of course the the receeding of the pandemic itself, with the US doing well compared to "other industrial countries."  The fiscal and monetary policies supporting this have so far been a good thing, blah blah blah.  But now we must change course, especially the Fed, which Summers is still ticked off about not being appointed Chair of instead of Janet Yellen back when (both of his parents worked for the Philadelphia Fed, so, obviously he should have been put in charge of it, goshdarnit, quite aside from having Paul Samuelson and Kenneth Arrow as uncles!). It is not just ongoing easy monetary and fiscal policies involved here, but the "pentup demand" now roaring out that supposedly is going to race against supply responses for some long time into the future.

Oh, he does have some evidence.  Indeed the rate of inflation has risen and to a level, 7.5% annual rate in the first quarter, and can quote various others who agree with him that inflation is in danger of getting seriously out of control, such as Warren Buffett, and can quote Jason Furman (who briefly co-blogged with some of us back on the old Maxspeak) that the fiscal stimulus is "too big for the moment." 

This all supposedly means that the Fed needs to step forward by "explicitly recognizing that that overheating and, not excessive slack, is the predominant near-term risk for the economy." Furthermore, "policies toward workers should be aimed at the labor shortage that is our current reality" by ending extra unemployment benefits in September.  Oh, while he is worried about too much fiscal stimulus, he nevertheless does recognize that expanding infrastructure would help expand future supply capability, so he does reasonably argue states should not use federal aid to cut taxes.

Getting back to the Fed, regarding which Summers thinks  "Tightening is likely to be necessary," it must be noted that the Fed from the beginning of the year, if not earlier (along with Treasury Secretary Yellen) has forecast an increase in the rate of inflation this year. It must be admitted that indeed the most recent price spike exceeds what was forecast, so this is the opening for Summers and those who agree with him to argue that inflation is indeed a real risk that calls for a change of policy, or at least of rhetoric in preparation to change policy.  And this could happen, but how likely is it?

Here is where Summers seems to fall down.  The people at the Fed, led as near as I can tell by the astute Jim Bullard, have argued that nearly all price increases we would see are temporary surges associated with pandemic-induced supply chain problems, with the global shipping issue at the top of the list with its now tripling of costs.  A sign of this is the most dramatic price increases one hears about, such as for copper, have been overwhelmingly among raw materials and commodities rather than final consumer goods, although there certainly has been some passthrough for many of those.  But even with those, some appear to have perhaps stopped rising, notably that headline maker, gasoline prices, which seem to have stopped rising after the freakout following the Colonial Pipeline shutdown that set off people waiting in lines a la 1979 (and getting on Fox News screaming about hyperinflation and blaming it on Biden).

Summers actually has very little to say specifically to offset the argument that most of this recent spike in prices most dramatically of inputs is not going to continue for all that much longer.  He grants that some of this is "transitory," but then invokes unspelled-out "variety of factors" that will keep demand rising faster than supply so that they "impact...inflation expectations on purchasing behavior." The only specific sector he mentions is housing, where he says that rising housing prices have not shown up in official inflation data.  He also claims that such expectations are showing up in interest rate changes, even though over on Econbrowser Menzie Chinn argues that if one accounts for liquidity and term premia, changes in 5-note and TIPS rates show basically no increase in inflation expectations at the 5-year time horizon, those still sitting at about 1.7%, still below the Fed's target inflation rate.

Oh, he also invokes "Higher minimum wages, strengthening unions, increased employee benefits and strengthened regulations" as further exacerbating this inflationary surge, even though he says these "are all desrable."  But Congress failed to raise the minimum wage, and while Biden may be the most pro-union president since FDR and Truman, union membership remains very low and not expanding, as the vote on organizing at Amazon in Alabama shows.  He really does not have much in the way of how the recent price hikes will keep on going up or even accelerate, rather then slow down or stop or even go back down in some cases for many of these inputs like copper and oil.

Obviously none of us know for sure on this, and indeed reports have it that the Fed is keeping a close eye on the price increases with rumblings even from Yellen that if inflation actually does stick or accelerate they will act to offset it. But from what I see, it remains that the vast majority of these price increases are likely to slow or even reverse as the supply bottlenecks gradually get loosened as the year proceeds.  Summers seems to be mostly just waving his hands that they will continue, and the Bullard-Fed view that they will ease still looks to me to be far more likely.  But in the meantime, Summers gets to get a lot of attention, even if he is not Fed Chair.

Barkley Rosser


GeorgeNYC said...

Geez. The slightest inkling that maybe a worker somewhere has a little teensy bit of bargaining power and suddenly the whole world is falling apart. Funny that falling labor costs are just "Mr. Market doing his magic" but as soon as something happens that might cause a rise in costs everyone panics. I guess it is "market equilibrium for thee but not for me".

Jacques Engelstein said...

Exactly! As soon as economic circumstances benefit workers, they need to be chopped down at the knees, according to Summers.

2slugbaits said...

If Summers is concerned that too much government spending will lead to inflation, then why doesn't he also argue for higher taxes on the rich as a way to dampen aggregate demand? Why is it that the only two options that can ever be considered by policymakers is either higher interest rates or cuts to programs that help the bottom quintiles? said...


I believe that he has elsewhere expressed support for higher taxes on higher income people, and indeed when he was advising Obama they did raise the tax rate on top incomes a bit. However, he has not been saying much about it in his recent discussions of inflation and did not do so in this column, although he did throw in opposition to states using federal assistance to cut taxes.