Stop the presses: Larry Summers has something constructive to say about inflation in the US and the Fed’s response to it.
After almost two years of fatalistic lamentations for a macro conjuncture destined to dead end in some kind of stagflation, Summers offered what, for him in 2022, counted as an optimistic assessment while speaking to Bloomberg’s David Westin for this week’s installment of “Wall Street Week.”
“Yeah, look, I think we are in better shape than I thought we were,” he said, asked about the November CPI release, which came in much cooler than anticipated (although you wouldn’t know it based on the kind of week it was for equities). “I think those are good numbers, but I think Powell is in about the right place.”
Westin juxtaposed the incremental progress on inflation with Jerome Powell’s assessment delivered the following day. Perhaps feeling betrayed by the market after the dramatically counterproductive easing in financial conditions that played out on the heels of his Brookings speech, Powell was reluctant to stray too far from the “higher for longer” script in his remarks to reporters after the Fed’s final rate hike of 2022. In addition, the new projections suggested the Fed expects core inflation to remain meaningfully above target next year.
“He’s recognizing that we can’t forecast the economy with precision, he’s recognizing that it would be a terrible error if we were to fail to stop inflation in this episode,” Summers continued, on the way to thanking Powell for “rejecting the talk about this being a moment to change the inflation target.”
It’s amusing that Summers, arguably one of the more imperious economists of our time, is so forthright about the impossibility of forecasting macro outcomes — suffice to say that only applies as long as he’s not the forecaster. The truth, as I’ve been over on countless occasions while editorializing around Summers’s fabulously lucky pandemic-era inflation call, is that no one knows much about economics because the human element isn’t amenable to incorporation in any sort of quantitative modeling.
For what it’s worth, I get the sense that policymakers are wrong one way or the other. Either i) the likes of Cathie Wood are right (try not to laugh) and the disinflationary impulse that’s already apparent in a variety of leading indicators presages a deflationary spiral, exacerbated by central banks’ penchant for fighting the proverbial last war, which in this case will mean hiking rates into a downturn, or else ii) the likes of Howard Marks and BlackRock are correct to suggest that a macro regime shift away from The Great Moderation is upon us, with all that entails for central banks’ 2% inflation ambitions.
Note that Bill Ackman this week suggested the Fed may eventually have to settle for 3% inflation. “The [Fed’s] 2% inflation target is no longer credible,” he said, adding that,
De-globalization, the transition to alternative energy, the need to pay workers more and lower-risk, shorter supply chains are all inflationary. The Fed cannot change its target now, but will likely do so in the future. When asked, Powell recommitted to a 2% target, but admitted that examining a higher rate was a possible ‘longer-term project.’ Businesses need price stability, but can thrive in a world with 3% stable inflation. I don’t think the Fed can get inflation back to 2% without a deep, job-destroying recession. Even if it gets back to 2%, it won’t remain stable there for the long term. Accepting 3%+/- inflation is a better strategy for a strong economy and job growth over the long-term.
Unpalatable as that might be for a lot of Fed critics, Ackman is probably right. Note that he characterized 2% inflation as a kind of “Just to show you we can” target — something that could be achieved temporarily by a vengeful central bank determined to prove something to itself and to the public. As Ackman suggested, that’s not a good way to go about making policy. And it’s not sustainable.
For all his ostensible prescience, Summers doesn’t sound as though he’s willing to entertain the notion that inflation might’ve ceased to be something we can reliably control in 2020. Instead, he hews fairly closely to the idea that good policy everywhere and always begets good outcomes. That simply isn’t true. Good policy is conducive to good outcomes, and vice versa, but that’s something different from treating macroeconomics as a hard science in search of someone smart enough to master it.
Remember: Economics is just sociology with money. I’m not sure anyone would seriously suggest that if we just packed Congress with the nation’s best and brightest sociologists, all of society’s problems would be solved. Sure, society would almost surely be a better place if all lawmakers were required to have PhD’s in sociology (the bar for better lawmakers is pretty low these days, after all), but it wouldn’t be a utopia, because no matter how well you understand humans and their motivations, you can’t predict “with precision” (as Summers put it) what they’re all going to do on any given day.
If the time comes when it’s obvious that 2% inflation is only being pursued for bragging rights, and only rarely achieved at the expense of draconian efforts to curb demand, the “terrible error” would be clinging to 2% as though the number where chiseled into a stone tablet and passed down to humans from the heavens.
That’s obviously not to suggest that, say, 8% or 9% inflation would be acceptable. It wouldn’t. It’s just to state the obvious: If the tradeoff is between 3.2% inflation and millions of lost jobs and shuttered small businesses to get to 2% for a quarter or two, it’d be madness to pursue 2% as though it were some divine dictate.
In any event, Summers did reiterate his contention that a recession could come on faster than anyone thinks, even if it takes us a bit longer to reach the cliff edge. “I think we’ve got a very difficult challenge ahead of us because I think the old adage about things taking longer to happen than you think they will and then they happen faster than you thought they could, is [relevant] with respect to the forecasted recession,” he said. “It does look like it’s pushed back a bit in time, but there are reasons to think… the economy could have a kind of Wile E. Coyote moment.”
On that latter point, at least, Summers is surely correct.