Federal Reserve Chairman Jerome Powell and Bank of England Gov. Andrew Bailey are burdened by terribly stubborn inflation and national governments either too woke or unimaginatively conservative.
Historically, central banks have viewed inflation and unemployment through a Keynesian lens.
Aggregate demand fluctuates above and below the productive potential of the economy. The result is either too much inflation — defined by central bankers as more than 2% — or too much unemployment — generally because households and businesses are pulling back on spending.
Monetary policy is not rocket science. If inflation is too high, then raise interest rates to curb investment — especially in housing — and spending on new cars, trucks and other consumer durables.
The machinations can be complex, because monetary policy works with a considerable lag. But higher interest rates drive up monthly payments for homeowners with variable rate mortgages and for those looking to purchase their first or bigger home. Fewer houses and fixtures get built, and demand and prices go down.
Similar logic applies for cars, major appliances and home improvements — higher interest rates are like sticker shock. As they can, buyers try to wait for the inevitable easing of monetary policy.
When inflation is tame and unemployment is too high, lower interest rates. All these forces go into reverse to boost demand and reduce unemployment.
In this world, the underlying capacity to produce goods and services grow at the sum of the rates of productivity and labor force growth. Keynesian monetary policy assumes those to be given — etched in stone by a higher power.
Climate change and droughts, Russia’s invasion of Ukraine and China’s saber rattling, Iran’s intransigence on nuclear weapons and the pandemic have dramatically reduced aggregate supplies of basic agricultural commodities, energy and reliable workers.
Gasoline prices have fallen, because President Biden has burned through about one-third of the Strategic Petroleum Reserve since August 2021. When that runs out, his polices of curtailing drilling on public lands will create nasty pressures on prices.
Climate change fundamentalists can’t seem to reckon with the fact that you can’t eat without natural gas. It’s a key component in making ammonia for commercial fertilizer, high gas prices are shutting down most European production, and abundant U.S. natural gas reserves are the answer, not a curse.
Longer-term investments in China are no longer seen as reliable, and assembly lines are moving to Mexico and elsewhere in Asia. In those places, the networks of component suppliers are not as robust and that will push up inflation.
Coupled with the mismatch between the skills, expectations and locations of the unemployed and business needs, supply-side constraints — not too much demand — account for at least half of inflation in recent years.
British Prime Minister Elizabeth Truss’ proposed policies are not so radical as critics scream. Spending to shelter Britons from this winter’s surge in energy prices is in line with European Union aspirations, but the rest of her agenda — lower taxes, fracking for gas and deregulation — is boilerplate supply-side economics.
Unfortunately, the U.K., the rest of Europe and America need a good kick in the pants. Fewer government benefits that discourage work, reforms at universities and dramatic improvements in availability of vocational and technical education.
Prime Ministers Theresa May and Boris Johnson made terrible, unnecessary concessions to the EU to accomplish Brexit. Now German manufacturers and French vintners have free trade access to the UK, but London’s finance industry lacks equal access to continental clients.
Consequently, the U.K. should implement industrial policies to reduce imports, increase exports and borrow less from abroad by growing and manufacturing more of its needs. Ms. Truss appears little aware of this.
Whereas British conservatives suffer from an error of omission, Mr. Biden’s progressives are imposing the reverse.
What Britain suffers on trade with the EU, America suffers with China, which exports what it does best and protects and subsidizes most of the rest.
Mr. Biden’s infrastructure package, Chips Act, Inflation Reduction Act and student loan forgiveness address some of our most pressing problems, but too expensively with too many preferences for minorities and unions and too few education reforms.
In this environment, to get inflation down to 2%, the Fed and the Bank of England may have to create tough recessions and then enforce near-zero growth.
Writing for Bloomberg, physicist Mark Buchanan questions economists’ obsession with growth and the planet’s capacity to sustain it. But to get to zero, we would have to reduce the global population or eliminate productivity growth.
Unfortunately, without constant improvements in how we make things and feed ourselves — especially with climate change — we are on the path of rapid resource depletion, shortages, terrible migrations and civil unrest.
Without more thoughtful leadership, humankind could again be clothed in bear skins and eating raw meat. After all, wood fires would be illegal, and no trees would be left anyway.
• Peter Morici is an economist and emeritus business professor at the University of Maryland, and a national columnist.