I’ve critiqued Larry Summers at regular intervals over the course of 2021 mostly because, in my opinion, his heavy-handed criticism of ultra-expansionary fiscal policy often came across as hypocritical, unduly derisive and suffered from an overreliance on textbook economics, a notoriously unreliable soft science which should never be confused with fields of study capable of producing immutable laws.
Summers repeatedly insisted the US economy was on the brink of overheating, a contention which, in his own words, was based on “fairly basic economic models” and an objective assessment of “the magnitude of demand [side] stimulus.”
It is, I contend, always dangerous to confuse soft sciences and hard sciences. Even in areas where our knowledge is deficient, we usually defer to hard sciences when it’s time to make decisions with the potential to alter people’s lives. For example, our understanding of the human brain is very limited (e.g, we know almost nothing about human consciousness). And yet, there’s a reason you go to a psychologist for therapy and a psychiatrist for prescriptions. You might find visits to a psychologist to be immensely more helpful than appointments with a psychiatrist, and it very well could be that the psychologist is in fact more knowledgable in a kind of broad, holistic sense. Still, when it comes time for someone to recommend and authorize drug usage, we understand the utility in consulting a medical doctor.
Unfortunately, we afford economists nearly the same leeway to make critical decisions that we grant medical doctors, biologists and rocket scientists. For whatever reason (widespread distrust of public officials is a good place to start) we tend to assume economists employed in the public sector are somehow less credible than their private sector counterparts whenever there’s a disagreement, even when the latter used to occupy the very same positions held by the former.
The back and forth between Janet Yellen and Summers over inflation is a good example. In a parallel universe where Summers returned to Washington as Joe Biden’s chief economic advisor and Yellen stayed in retirement, you could imagine Larry insisting inflation is transitory and Yellen writing Op-Eds suggesting it’s not. Never mind the names involved, the point is just that whoever’s railing against the “official” narrative is the person we believe, even if that person used to embody some version of the same narrative in an official capacity.
My point isn’t to take a side. Rather, I want to emphasize that there’s no reason to believe Summers is any more “right” than Yellen or that Brainard is any more “wrong” than Summers, or that any economist is any more correct or incorrect than any other economist. Economics is a soft science. You can’t be right on purpose. Only right by accident. Currently, Summers is right by accident.
The figures (above) illustrate various dynamics which, in one way or another, speak to where we are and why Summers can claim prescience.
Although most regular readers can sketch the inflation charts by memory, I suppose it’s obligatory that I include them. Below, find PCE with moving averages, CPI and the Cleveland Fed’s trimmed mean gauge.
Suffice to say things are running hot, just as Summers predicted.
I bring all of this up because, on Monday, Summers seemed to draw a Weimar parallel, and it actually does resonate. References to Weimar, like allusions to Venezuela, are the economic equivalent of a cheap thrill. I regularly brush them aside as absurd. What’s not absurd, though, is the notion that the combination of high inflation and a disaffected populace is conducive to rule by demagogue.
As Andreas Kluth recently wrote for Bloomberg, summarizing research by a trio of academics, the narrative that says the Weimar inflation was directly responsible for the rise of the Third Reich is mostly false. “There was hyperinflation during the Weimar era, and it did contribute to a general sense of chaos that undermined the fledgling republic, but that peaked in 1923, the year Hitler botched a putsch and went to jail — a full decade before he seized power,” the linked Op-Ed noted. “By contrast, the monetary and economic event that contributed directly to the Nazi takeover was the crisis of the early 1930s, and in particular the deflation that caused mass unemployment.”
The public’s inadvertent revisionist Reich history aside, the important point is that the populist sentiment which gave rise to Trump hasn’t gone away in America. By many accounts, it’s stronger than ever. When it comes to grievances Trump could seize upon while attempting to retake power, surging inflation that doesn’t abate is as combustible as issues get. In a series of public remarks, Summers on Monday warned that failure to control inflation could see Trump return to office in 2024. Find his remarks below.
Via Larry Summers
There is a wise apocryphal saying often attributed to Keynes: When the facts change, I change my mind. What do you do?
After years of advocating more expansionary fiscal and monetary policy, I altered my view. I believe the Biden administration and the Fed need to further adjust their thinking on inflation.
First, let’s not compound errors that have already been made with far too much fiscal stimulus and overly easy monetary policy by rejecting Build Back Better. The legislation would spend less over 10 years than was spent on stimulus in 2021.
Because spending is offset by revenue increases and because it includes measures such as child care that will increase the economy’s capacity, Build Back Better will have only a negligible impact on inflation.
Second, the Administration is making a series of Fed appointments in coming weeks. The President’s choices need to recognize, as Jerome Powell has started to do in recent remarks, that the major current challenge for the central bank is containing inflation.
Third, The Fed should signal that the primary risk is overheating and accelerate tapering of its asset purchases. Given the house-price boom, mortgage-related purchases should stop immediately.
Buying inexpensively should take priority over buying American. Tariff reduction is the most important supply-side policy the administration could undertake to combat inflation.
Excessive inflation and a sense that it was not being controlled helped elect Richard Nixon and Ronald Reagan, and risks bringing Donald Trump back to power.
While an overheating economy is a relatively good problem to have compared to a pandemic or a financial crisis, it will metastasize and threaten prosperity and public trust unless clearly acknowledged and addressed.