The Wall Street Journal says that the world's central bankers have won their long, brutal battle against inflation:
You know, if central banks are declaring victory for getting inflation down, then they must have done something wrong to make inflation go up in the first place. Maybe they should hold off on the hosannas.
Alternatively, they had nothing to do with inflation going up and nothing to do with inflation going down. It was all supply chain pressure and stimulus spending from legislatures. Central banks could have just snoozed through the whole thing with not much harm done.
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"...then they must have done something wrong to make inflation go up in the first place."
Indeed, Jay Powell has said that they kept rates too low for too long, and allowed inflation to get higher than they should have. Something I really respect about Powell has been his ability to acknowledge past mistakes.
Also - someone else pointed this out a few days ago but it bears repeating: please do not confuse Wall Street Journal headlines with what central bankers actually say or believe. Some quotes from yesterday's press conference:
"we will need to see further evidence to build confidence that inflation is moving down sustainably toward our goal"
"ongoing progress toward our 2 percent inflation objective is not assured"
"we anticipate that the process of getting inflation all the way to 2 percent will take some time"
Powell hasn't declared victory.
Source for quotes: https://www.federalreserve.gov/mediacenter/files/FOMCpresconf20231213.pdf
That's assuming that low rates drove inflation. If inflation came down before rate increases could have conceivably caused it, how is cause and effect shown?
"If inflation came down before rate increases could have conceivably caused it, how is cause and effect shown?"
I reject the premise of your statement. Interest rate increases have had 21 months to cause inflation to come down. Kevin repeatedly asserts that higher interest rates have had nothing to do with lowering inflation but I believe he is wrong about that.
That being said, I am not trying to argue that low rates "drove" inflation. I agree with Kevin's assessment that supply chains and stimulus spending were major drivers of inflation (though I think it's more complex than that and other factors contributed as well).
But monetary policy is responsible for managing the price level. When exogenous shocks occur that are likely to drive prices up, it is the responsibility of monetary policy authorities to recognize those shocks and act quickly to counteract them. In 2021, monetary authorities deliberately chose *not* to act even though they could see inflationary shocks, because we had just been through a decade + of an understimulated economy and they viewed the risks of undershooting recovery were higher than the risks of overshooting inflation.
And by the way, I agreed with this view at the time. I still think that this view was correct about balance of risks - a year of much-too-high inflation and then another 12-18 months of higher-than-we-want inflation isn't as bad as a years-long spell of too-slow growth. But we did see inflation that was too high, and there's very strong economic theoretical and empirical evidence that higher interest rates can keep prices in check, and if the Fed and others had started raising rates sooner, there is good reason to think that inflation could have been kept more in check.
Kevin's logic is overly simple. The Federal Reserve can be effective at reining in inflation that they did not cause. You don't say, "The doctor helped me get better, so she must have made me sick in the first place."
A more pertinent medical analogy: 200 years ago people would say "The doctor took a half-pint of blood out of my arm and I got better; therefore the doctor cured me". Now they say "The Fed raised interest rates and inflation went down; therefore the Fed defeated inflation".
Except that there is sound theoretical and empirical evidence that higher interest rates do help reign in inflation, whereas the bloodletting thing was always crazy.
Do we *know* that higher interest rates helped this time? We don't - I can't prove it - but nor can anyone prove that inflation would have come down anyway. Kevin has repeatedly asserted that higher interest rates have had no effect on the economy yet, but his assertion does not make it true.
What we do know is that higher interest rates are consistent with slower inflation, that the tradeoff of higher interest rates would generally be slower economic growth and higher unemployment, but that unemployment has stayed very low so far. So in the face of that evidence, is it reasonable to believe that, absent higher interest rates, we'd see higher rates of inflation today? I say that it is quite reasonable. Indeed, I would argue that those who continue to insist that higher interest rates have not yet had any effect on the economy are the ones who face the burden of proof, since we are now 21 months into the hiking cycle (and in fact we are two years out from when the Fed forecast that hikes were coming).
If we haven't felt any impact yet, why not? Why is it taking so much longer than it has in the past, even while there are sound theoretical and empirical arguments that the impacts of monetary policy should be felt faster now than in the past?
Inflation was low coming out of WWII, then spiked as the country (and world) transitioned from a wartime to peacetime economy, then came down after peaking in 1947.
1945: 2.3%
1946 8.5%
1947: 14.4%
1948: 7.7%
1949: -1.0%
Was the Fed responsible? Can't prove it one way or another. Rates did rise, but only from 0.375% to about 1.0% (3-mo T-bills). That's a long way from rates this cycle that rose above 5.3%.
If you do credit the Fed for bringing down inflation in the late '40s, then you probably also need to blame it for the recession of 1949. Let's hope we escape that fate this time around.
I’m not remotely familiar enough with the economic conditions of that period to comment one way or the other on whether or not the Fed had anything to do with them. Honestly, I don’t even know whether the Fed had the same dual mandate in the mid to late 40s as it does now.
Based on your description, it doesn’t seem like the fed did very much in the 40s to bring down inflation. Instead, presumably, there was an exogenous shock that caused a recession and brought inflation down as a consequence. If those circumstances happened today, I would blame the Fed for letting inflation get so high and expect them to provide support to the economy in the recession that ensued. In today’s context, it seems that they failed to act to avoid either of those bad outcomes. But again, I really have no idea how the Fed operated in the late 40s.
If the economy starts to weaken, and the Fed does not take action to support it, I will absolutely assign blame to them for the ensuing recession. That’s the Fed’s job - maximum employment along with price stability. I share your hope that we avoid that fate this time around. Though, it should be noted that there *will* be a recession someday. Recessions happen. Hopefully, we’re a while off from one still. But eventually we’ll get one.
Personally, I think the Fed blows a whole lot of ‘hot air’ but they always manage to make the headlines and folks cluster to listen.
It wasn't all; it was primarily. You keep talking about Friedman's long and variable effects of monetary action, yet give no credence to the services component of inflation that hasn't cooled as quickly as core inflation or headline inflation.
KD: "You know, if central banks are declaring victory for getting inflation down, then they must have done something wrong to make inflation go up in the first place."
I've been telling everybody that if fire departments are declaring victory for reducing the number of houses that burnt to the ground, they must have done something wrong that caused more arsonists to torch homes..
After watching the lackluster recovery from the 2008/9 crash, and the quick drop in inflation after supply chains started recovering, I think that demand affects inflation and employment far more than the Fed.
The Fed dropped rates to 0 in 2008, and it still took forever to recover -- the main benefit the Fed provided was preventing a bank run. That's a big deal, of course, but didn't drive a recovery, it prevented a re-run of the Great Depression.
Today's interest rates are high, but I suspect people keep spending on things like mortgages because they know that they can turn over their loans once rates drop again, and I'm guessing they must think that's going to happen. Certainly, if I were looking to buy a house today, that would be my thinking.