Opinion: the only word that explains why inflation fears are unfounded

AUSTIN, Texas (Project Syndicate) – President Joe Biden‘s American Rescue Plan (ARP) scale – $ 1 trillion in spending for this year, another $ 900 billion after that, plus a $ 1 energy and infrastructure program 3 trillion that has been promised – it has scared many macroeconomists. Are your fears justified? Bank and bond market economists, having screamed wolf before, can be ignored. A year ago, many of them warned that the Coronavirus $ 2.2 trillion Economic Relief, Relief and Security Act (CARES) would incite hyperinflation by massively increasing the money supply. It did not happen.

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“What happened to inflation? The answer can almost, if not quite, be summed up in one word: China. ”

The flawed Phillips curve Most notable among critics are New Keynesians like Lawrence H. Summers of Harvard University and his many acolytes. Summers has a different analysis. It was his uncle, Paul Samuelson, who along with future Nobel laureate Robert Solow launched the Phillips curve in 1960. This simple model offered some of the most successful empirical predictions in economic history during its first decade, and it has been an economic ruler. thumb since then.

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“Once again, massive fiscal spending in the United States has triggered inflation warnings and triggered dark memories of the 1970s. But these fears are based on a pattern that has since been erased by economic realities, including the rise of China, which has fundamentally reshaped the economies of the United States and the world. ”

Based on data from Britain in the late 19th century and postwar America, the Phillips curve postulated an inverse relationship between inflation and unemployment: as one went down, the other went up. Sunny Oh: Why hasn’t the bond market blinked, until now, at Biden’s plan to spend trillions on infrastructure. This is what seems to be bothering Summers today. The various rescue and federal support packages are truly huge, and the ARP alone accounts for about 6% of gross domestic product. The full scale of federal spending is even larger, reaching 13% of GDP by one estimate. By comparison, the conventionally estimated “output gap” (the amount of slack in the economy) comes down to just a quarter, perhaps less.

“Reality actually erased the Phillips curve. From the early 1980s, and certainly from the mid-1990s onward, inflation could not be found and lower unemployment did not tend to cause it. ”

Furthermore, the official unemployment rate of 6% is not very far from the 4% level conventionally believed to represent “full employment”. Those who receive aid payments from the government are concentrated at the bottom of the income distribution and therefore, in theory, should spend more and save less than the cash outlay, especially since many households already have some savings withheld from them. the CARES Act. Under the old-fashioned logic of the Phillips curve, the new “stimulus” could bring the unemployment rate down to full employment and raise the inflation rate from 0.6% in 2020 to at least 2-3%. Jeffry Bartash: Inflation is back in Wall Street‘s crosshairs as the US economy resurfaces.But the Phillips curve has had a rough ride since 1969. For about 25 years after that, the thought The dominant economy argued that a negatively sloping curve was not a vertical line, at least “in the long run.” The implication was that any attempt to reduce unemployment below a “natural rate” or “unaccelerated inflation unemployment rate” (NAIRU) would produce hyperinflation.

“Since full employment had never been the culprit, full employment in the late 1990s and in the run-up to the COVID-19 pandemic did not bring inflation back. ”

Summers, I’m pretty sure, has more confidence in American capitalism than this point of view implies; and yet he always approached this scary school of thought. Reality, on the other hand, erased the Phillips curve. From the early 1980s, and certainly from the mid-1990s onward, inflation could not be found and lower unemployment did not tend to cause it. The relationship is not vertical or downward sloping, but flat, that is, it does not exist, if it ever existed. I pointed this out in a 1997 article titled “Time to Ditch the NAIRU.” Twenty-one years later, the distinguished New Keynesian Olivier Blanchard came to ask essentially the same question in the same journal: “Should we reject the natural rate hypothesis?” China did it. What happened? The answer can almost, if not quite, be summed up in one word: China. Since the early 1980s, the US dollar BUXX, + 0.12% began to rise, crushing the industrial base and unions in the US Midwest. The ensuing collapse in world commodity prices, and the Soviet Union with them, set the stage for China to emerge as the world’s leading supplier of manufactured consumer goods. Meanwhile, the forces that pushed up consumer prices in the United States after 1970 – including dollar devaluations, spikes in oil prices, and cost-of-living adjustments for manufacturing workers (passed on in the form of higher prices) – disappeared. From Barron’s: Inflation is coming. Why could it be here to stay. Since full employment had never been the culprit, full employment in the late 1990s and in the run-up to the COVID-19 pandemic did not bring inflation back. Also, there is no longer a tendency for oil price fluctuations to carry over to wages and other prices, because American jobs are now primarily in services, where the price of labor is the price paid. . But won’t China now take advantage of high US demand to drive up prices? No, because Chinese companies fear losing market share to other countries and because China’s economic spirit does not reward maximization of profits but rather social stability, constant production growth and cost reduction through learning and the new technologies. These companies will not alienate their customers by raising prices to exploit the additional demand a bit. There may be some backorders and late deliveries, and some price increases due to higher shipping costs and higher wages in China. But the only real inflationary danger comes from those fanning the flames of war with China. War is always inflationary; a war with our largest supplier of goods would be an inflationary nightmare. Lack of Confidence and Security, Not Stuff In the absence of that, American households are not suffering from a shortage of smartphones, dishwashers, and running shoes. What they lack is confidence and security. Therefore, much of Biden’s money will not go to China at all. It will go towards savings to cover future rents, mortgages, utilities and debt payments. Yes, some will be spent on services that were lost in the past year, reviving jobs in those sectors to some extent. Some will be used for home maintenance, repair or improvement, expenses that were neglected when people feared incurring the added cost of a plumber, electrician or painter. And some will dedicate themselves to the construction of new houses, as is already happening. Mark Hulbert: Investors are concerned that inflation will persist after a spike this summer, but that’s likely not the case – for the rest, a good chunk will go to DWCF stock purchases, + 0.00% DJIA, -0.29% COMP, – 0.05%, TMUBMUSD10Y bonds, 1.658% and real estate, especially land, suburban homes and rural retreats that became precious during the pandemic. It is primarily here that prices will rise, further enriching those who already own such assets. The wealth gap, already huge, will widen. Because stocks and bonds, existing houses, and land are not newly produced consumer goods, these price increases will not show up in indexes that measure inflation. We’ll have to keep an eye out for them on the S&P 500 SPX, -0.10%, and on the Zillow real estate platform, where the price hike is duly celebrated as a good thing. The most important lesson is twofold. First, the dominant New Keynesian macroeconomics of the 1960s is not a useful guide to understanding an American economy that has become completely entangled with the rest of the world and fundamentally reshaped by the rise of China. Second, America’s problems of inequality and precariousness are not really problems of material scarcity. They reflect an unsustainable misallocation of wealth and power. This comment was published with permission from Project Syndicate: China is missing from the great inflation debate. James K. Galbraith is Professor of Government and Chairman of Government-Business Relations at the Lyndon B. Johnson School of Public Affairs at the University of Texas at Austin. From 1993 to 1997, he served as Senior Technical Advisor for Macroeconomic Reform of the China State Planning Commission. He is the author of “Inequality: What Everyone Should Know” and “Welcome to the Poisoned Chalice: The Destruction of Greece and the Future of Europe.” ”