True or False?
Yves here. While it might seem that Larry Summers has finally faded from public life, think again! Wikipedia reports that Summers joined the board of OpenAI in November 2023. And one can be sure he’d want to influence the economic policies of a Harris Administration, if not though a formal role, then though op-ed and back channels.
Keep in mind that Summers has one of the leaders of the hawkish view of our current inflation, which Americans have been dutifully told has been tamed, even if many are still suffering from higher prices. A snapshot of this views from 2022: History Shows No Example of Hiking US Rates Too Fast, Summers Says.
Former Treasury Secretary Lawrence Summers argued against the Federal Reserve holding back from aggressive monetary tightening, saying that greater economic damage would result from any hesitation.
“History records many, many instances when policy adjustments to inflation were excessively delayed and there were very substantial costs to that,” Summers told Bloomberg Television’s “Wall Street Week” with David Westin. “I am aware of no major example in which the central bank reacted with excessive speed to inflation and a large cost was paid.”
From original link:
In fact, as Dutch economist Servaas Storm showed over several papers, carefully parsing data, [our inflation is due largely if not entirely to a reduction in supply: the impact of Covid on the workforce and supply chains and sanctions blowback](https://www.ineteconomics.org/perspectives/blog/inflation-in-a-time-of-corona-and-war). Biden deficits may have come to play a role, but Summers’ notion that too much demand caused the inflation meant his call for Fed interest rate hikes was administering the wrong medicine.
Financial Times ’ Martin Wolf (2022) is the latest influential voice sounding the alarm bell on ‘the threat of stagflation’ and calling for the Fed to drastically raise interest rates to bring inflation down to its target level. Published on May 24, Wolf’s diagnosis of where the stagflation in the US economy is coming from reflects current establishment opinion: nominal demand, fuelled by over-expansionary fiscal and monetary policies during the COVID-19 crisis, is exceeding US supply. To bring down inflation, these macroeconomic policy errors need to be corrected convincingly and as soon as possible.
Summers’ and Wolf’s calls for action are echoed by many observers in the financial sector.
A more acute assessment would recognize that interest rates are a socially very costly tool to ‘control’ inflation—especially when the sources of the inflationary surge lie in an unprecedented constellation of (mostly) supply-side bottlenecks which are driving up prices. Similarly, a close look at the past record of monetary tightening shows that the Fed has hardly ever managed to guide the economy to a soft landing with interest rate increases.[1] A key reason is that small interest rate hikes do not reduce inflation (at all). It takes large interest rate hikes, but those come with massive collateral damage to the real economy—and this collateral damage might well be larger than the damage done by allowing inflation to remain high for some, while actively managing its consequences (especially in terms of the distribution of incomes).
There are reasons to believe that the collateral damage wrought by substantially higher interest rates will be even higher today than in 1980. The key point is that more than a decade of extraordinarily low interest rates have led to a significant increase in corporate and public debts and an unsustainable bout of asset price inflation in the housing market, the stock market, and almost all other financial markets. A large interest rate hike will create a financial crash.
A new INET working paper on US inflation
In a new Working Paper for INET, I attempt to recover the lost plot, arguing that the recent inflation has mostly supply-side origins, caused by the COVID-19 crisis and the Ukraine war, and has been enabled by mistaken past and current macroeconomic policy choices.
