Monetary policy conference; and inflation past present and future

On May 6 the annual Hoover monetary policy conference returned. It was great. In particular, the opening panels by Rich Clarida, Larry Summers, and John Taylor, and the final panel with Jim Bullard, Randy Quarles, and Christopher Waller were eloquent and insightful. Alas, the videos and transcripts aren't quite ready so you have to wait for all that. There will also be a conference volume putting it all together. 

In the meantime, I wrote a paper for my short talk; and thanks to the Hoover team I also have a transcription of the talk. The paper is "Inflation Past, Present and Future: Fiscal Shocks, Fed Response, and Fiscal Limits." It pulls together ideas from a bunch of recent blog posts, other essays, bits and pieces of Fiscal Theory of the Price level. Sorry for the repetition, but repackaging and simplifying ideas is important. Here's the talk version, shorter but with less nuance: 

Inflation Past, Present and Future: Fiscal Shocks, Fed Response, and Fiscal Limits

Here we are. Inflation has emerged, and the Fed is reacting rather slowly. 

Why? Where did inflation come from, is question number one, and Charlie Plosser gave away the answer in his nice preface to this session: The government basically did a fiscal helicopter drop, five to six trillion dollars of money sent in a particularly powerful way. They sent people checks, half of it new reserves, half of it borrowed. It's a fiscal helicopter drop. Imagine that this had been simply $6 trillion of open market operations. Well, as Larry just told us, $6 trillion more $10 bills and $6 trillion fewer $100 bills won’t make much difference. If there had been no deficit, it certainly wouldn't have had such a huge effect. 

The impulse was not the fault of interest rate policy either. Interest rates have just been flat. One can blame the Fed for contributing to the great helicopter drop, but not for a big interest rate shock. 

So that's the inflationary impulse, but where is inflation going now? Now, attention turns to the Fed. Interest rates stayed flat while inflation got going from the fiscal shock, as you see in the first graph. 

So the next question is, does this slow response; this period of nominal interest rates far below inflation,  constitute additional monetary stimulus, which creates additional inflation on its own? Or are we simply waiting for the fiscal (or supply, if you must) shock to blow over? 

Sloar panel tariffs

 T.J Rodgers in the Wall Street Journal is classic: 

Solar panels are key to the transition to carbon-free energy. Since the Earth will be unlivable due to the climate catastrophe if we don't move now, at least according to the Administration, you would think they would be doing everything to encourage solar panel installation. Since mother Gaia does not care where panels are produced, you would think the Administration would not either. If China can produce them cheaper, all the better for the Earth. If China wants to tax its citizens to subsidize our solar panels better still. It's the least they could do in return for adding a new coal-fired power plant about once a week. You would be wrong. Our policy is 

 a punitive 2012 tariff levied by the U.S. Commerce Department.

That raises the price substantially: 

Our politicians disingenuously campaign for conversion to solar energy, but their propensity for top-down economic controls is forcing American homeowners to pay $2.65 per watt on average to install a residential solar system today, according to Clean Energy Associates. The equivalent fully installed residential solar costs are $1.50 in Europe, $1.25 in Australia and $1 in India—because these places practice, and get the benefits of, free-market capitalism in their solar markets.

Oh, those pesky free-market capitalists in Europe, Australia and India. 

The climate finance emperor's clothes

Stuart Kirk of HSBC (head of worldwide responsible investing!) gave an eloquent short speech on climate financial risk.  Youtube link in case the above embed doesn't work. 

Most of the points are familiar to readers of this blog, but they are so artfully put and in such a high visibility place, that you should watch anyway. 

Why the catastrophism? 

"I completely get that at the end of your central bank career there are many many years to fill in. You've got to say something, you've got to fly around the world to conferences. You've got to out-hyperboae the next guy [or gal]" 

A fun bit of hypocrisy: 

"Sharon said, `we are not going to survive'..[ but] no-one ran from the room. In fact most of you barely looked up from your mobile phones at the prospect of non-survival." 

Regulatory bother

"what bothers me about this one is the amount of work these people make me do" 

A good point: Markets are not pricing in end of the world. 

"Markets agree with me. Despite the hyperbolae, the more people say the world is going to end... the more the word "climate catastrophe" is used around the world, the higher and higher risk assets go. "

Regulatory capture: trucking edition

Dominic Pino has a lovely National Review article on Mexican trucks. Watch the sausage in the making. Excerpts with commentary

Congress banned Mexican truckers from entering the U.S. in 1982. NAFTA, which came into effect in 1994, committed the U.S. to removing that restriction by 2000.

1994 was 28 years ago.  

The U.S. left the restriction in place anyway, and was found to be in violation of the agreement in 2001... The Bush administration said it would remove the restriction.

But organized labor and environmental groups...sued to keep the restriction in place. The environmentalists claimed that Mexican trucks did not meet American safety and environmental regulations. The Teamsters and other unions had an obvious motive: keeping out the competition....

In 2004.. the Supreme Court ruled against the environmentalists and unions and said that the Bush administration could remove the restriction and bring the U.S. in line with its obligations under NAFTA. Clarence Thomas wrote for the unanimous court.

Unanimous.

Video week

It's been a busy week for video. I started Monday with a good roundtable with Benn Steil at the Council on Foreign Relations "Understanding Inflation and its Causes" 

Tuesday we did a great Goodfellows conversation with Larry Summers. (Audio podcast at that link, plus video if the embed doesn't work.) Larry answers "what would you do at the Fed" much better than I did when Benn asked, among other great topics. 

This week also Casey Weade posted a podcast and video interview we did on Fiscal Theory of the Price Level, for a general audience, at his "Retire with Purpose" podcast. Casey did a great job asking good questions and steering the conversation. Link, including audio podcast

More got recorded, not up yet... a busy week.  

Inflation and the end of illusions.

An oped at Project Syndicate

Inflation’s return marks a tipping point. Demand has hit the brick wall of supply. Our economies are now producing all that they can. Moreover, this inflation is clearly rooted in excessively expansive fiscal policies. While supply shocks can raise the price of one thing relative to others, they do not raise all prices and wages together. 

A lot of wishful thinking will have to be abandoned, starting with the idea that governments can borrow or print as much money as they need to spray at every problem. Government spending must now come from current tax revenues or from credible future tax revenues, to support non-inflationary borrowing. 

Stimulus spending for its own sake is over. Governments must start spending wisely. Spending to “create jobs” is nonsense when there is a widespread labor shortage. 

Unfortunately, many governments are responding to inflation by borrowing or printing even more money to subsidize energy, housing, childcare, and other costs, or to hand out more money to cushion the blow from inflation – for example, by forgiving student loans. These policies will lead to even more inflation. 

Fed psychology updates

Updates and rumination on my last few posts, why has the Fed responded so slowly to inflation. (Last post) 

1. Forward guidance? 

For the last several years, the Fed has placed more and more weight on "forward guidance." This is the theory that by promising to keep interest rates low in the future, even after the time to do so will have passed, the Fed can stimulate immediately. That is especially useful at the zero bound, and it is an important and explicit part of the Fed's new (well, pre-covid!) strategy. 

I and others were critical. Who will believe that the Fed, ex-post, will do what is not right at the time? I complained, will the Fed ever say to Congress, "yes, we should be raising rates, but we promised to keep them low 3 years ago when we were fighting deflation, so we have to keep that promise now. Sorry, inflation is going to have to rip a little stronger." 

Well, that seems to be exactly what the Fed is doing. Surely some thought of "we promised to keep rates low, now we'd better do it or people will never believe our promises" might be what's going on. I would be curious from Fed insiders if this is part of the discussion. 

Is the Fed new-Keynesian?

(Update: This post turned in to "inflation past present and future")

I realize that the title of my last post, Is the Fed Fisherian? was not as clear as it could be. The model I used to understand the Fed's forecast was, in fact, completely standard new-Keyenesian. The new-Keynesian model has the Fisherian property -- a permanent interest rate rise raises inflation, at least eventually -- but that is not its core feature. A clearer description is, is the Fed new-Keynesian -- and thereby, only incidentally, Fisherian. 

Beyond clearing that up, today I want to add unemployment. In part, I am motivated by a new working paper by Alex Domash and Larry Summers, warning that the Fed will have to raise interest rates to stop this inflation, and doing so will cause a recession. They also point out that scenario in the past, most notably 1980. 

So what model can account for the Fed's rosy employment scenario? It turns out that the little new-Keynesian model from the last post accounts for its unemployment views as well. And that the same model accounts for its inflation, unemployment, and funds rate forecasts together makes it more credible that this is a reasonable model of how the Fed thinks.  

The Fed, it seems is new-Keyensian. That makes some sense; their models are new-Keynesian. We shall see if those models are right. 

I start today by plotting again the Fed's projections, this time including unemployment. As well as inflation going away on its own without a period of high interest rates, you see inflation gently converge to the Fed's view of a long-run 4% natural rate. Is there a model behind this rosy scenario? Yes. 

Is the Fed Fisherian?

The current situation, and puzzling inertia

Inflation has been with us for a year; it is 7.9% and trending up. March 15, the Fed finally budged the Federal Funds rate from 0 to 0.33%, (look hard) with slow rate rises to come.  

A third of a percent is a lot less than eight percent. The usual wisdom says that to reduce inflation, the Fed must raise the nominal interest rate by  more than the inflation rate. In that way the real interest rate rises, cooling the economy. 

At a minimum, then, usual wisdom says that the interest rate should be above 8%. Now. The Taylor rule says the interest rate should be 2% (inflation target), plus 1.5 times how much inflation exceeds 2%, plus the long run real rate. That means an interest rate of at least 2+1.5x(8-2) = 11%. Yet the Fed sits, and contemplates at most a percent or two over the summer. 

This reaction is unusually slow by historical precedent, not just by standard theory and received wisdom. The graph above shows the last episode for comparison. In early 2017, unemployment got below 5%, inflation got up to and just barely breached the Fed's 2% target, and the Fed promptly started raising interest rates. Inflation batted around the Fed's 2% target. March 2022 unemployment is 3.6%, lower than it has been since December 1969. No excuse there.  

Will inflation persist?

(Note: this post uses Mathjax equations. If you see garbage, come back to the original.)

Introduction

Will inflation persist? One line of thought says no: This inflation came from a one-time fiscal blowout. That "stimulus'' being over, inflation should stop. In fiscal language, we had a one-time big deficit, that people do not expect to be repaid by future surpluses. That gives rise to a one-time price-level increase, paying for the deficit by inflating away some debt, but then it's over.

There are many objections to this argument: We still have persistent deficits, and the entitlement deluge is coming. Or, maybe our inflation comes from something else.

Here, I analyze one simple point. Suppose we do, in fact, have a one-time large deficit. How much do sticky prices and policy responses draw a one-time deficit shock out to a long-lasting inflation? The answer is, quite a bit. (This post is an extension of "Fiscal Inflation," which documents the size and nature of the fiscal shock to inflation, and talks through the frictionless model.)

SEC climate update

Three additional thoughts on climate financial regulation, building on the last post about the SEC  

1) A big question about SEC and related regulation. May the SEC regulate only on financial issues, i.e. "materiality," or may it regulate with larger social, economic, or political objectives in mind? 

The big squeeze now is to squeeze the latter in to the former. Disclose that the company doing something unpopular, even if it may have no financial effect, because someone might decide they don't like it -- either the twitter mob or future regulators -- and cause you trouble. (I am deliberately not using legalize here.) The carbon rules are not entirely new ground here, but so deep into that territory that the question is now loud and clear. 

2) "Disclosure" usually means revealing something you know. A perfectly honest answer to "disclose what you know about your carbon emissions" is, "we have no idea what our carbon emissions are." Back that up with every document the company has ever produced, and you have perfectly "disclosed." There is no asymmetric information, fraud, etc. 

The SEC has already required the production of new information, and as Hester Peirce makes perfectly clear, the climate rules again make a huge dinner out of that appetizer: essentially telling companies to hire a huge number of climate consultants to generate new information, and also how to run businesses.  

The fixed costs alone are huge. The trend to going private and abandoning public markets, at least in the U.S. will continue. The trend to large oligopolized politically compliant static businesses in the U.S. will continue. 

I would bet these rules wind up in court, and that these are important issues. They should be. 

3)  The SEC's timing relative to Russian sanctions makes an interesting one-two punch, as Walter Russell Mead points out. Suppose you're Brazil. Hmm. When will the U.S. decide to impose financial sanctions on Brazil for not following our ideas of climate policy, or the SG (social, governance) part of ESG? Maybe we should find alternative financial channels, pronto.  

SEC takes on climate

From March 21 SEC press release, covering the 510 page proposed rule on climate disclosures. (The colleague who pointed me to this describes that as "a good deal shorter than many such exercises!") 

The Securities and Exchange Commission today proposed rule changes ... The required information about climate-related risks also would include disclosure of a registrant’s greenhouse gas emissions, which have become a commonly used metric to assess a registrant’s exposure to such risks.

Wow, just wow. Later, 

The proposed rules also would require a registrant to disclose information about its direct greenhouse gas (GHG) emissions (Scope 1) and indirect emissions from purchased electricity or other forms of energy (Scope 2). In addition, a registrant would be required to disclose GHG emissions from upstream and downstream activities in its value chain (Scope 3), if material or if the registrant has set a GHG emissions target or goal that includes Scope 3 emissions.

Why is this noteworthy? Remember, the SEC like other financial regulators is supposed to be in the business of relating financial risks. It is not supposed to be in the business of deciding and implementing climate policy. The pretense in this game has been, oh, we're not doing climate policy, we're just making sure that companies disclose (and, at the Fed, banks are not exposed to) risks. Financial risks. The climate might change, and the company goes out of business sorts of risks. 

What does calculating (nearly impossible, including upstream and downstream) and "disclosing" greenhouse emissions themselves, including emissions from purchased energy is a different story. 

How does a financial regulator have the authority to do that?   Aha, "which have become a commonly used metric to assess a registrant’s exposure to such risks." Don't you love passive voice? Now, just what connection is there between, say, a refinery's CO2 emissions, including those of the electric company that it buys power from, and the emissions of the truck company that buys its grease, and the financial risk to the refinery? Does that "commonly used" metric make any sense at all? Of course not. Only, perhaps, political risk; that the SEC and other regulators might close down companies based on CO2 emissions. I hope that people involved in this debate will seize on whether "have become a commonly used metric to assess a registrant’s exposure to such risks" is true, and whether it makes any sense at all. 

Commissioner Hester Peirce's response "We are Not the Securities and Environment Commission - At Least Not Yet" is wonderful, and detailed. 

The funniest  part: 

My statement is rather lengthy, so I will turn my video off as I speak; by one estimate, doing so will reduce the carbon footprint of my presentation on this platform by 96 percent.[2]

Serious points: 

The proposal turns the disclosure regime on its head.  Current SEC disclosure mandates are intended to provide investors with an accurate picture of the company’s present and prospective performance through managers’ own eyes.  How are they thinking about the company?  What opportunities and risks do the board and managers see?  What are the material determinants of the company’s financial value?  The proposal, by contrast, tells corporate managers how regulators, doing the bidding of an array of non-investor stakeholders, expect them to run their companies.[1]  It identifies a set of risks and opportunities—some perhaps real, others clearly theoretical—that managers should be considering and even suggests specific ways to mitigate those risks.  It forces investors to view companies through the eyes of a vocal set of stakeholders, for whom a company’s climate reputation is of equal or greater importance than a company’s financial performance.

A big point  

I. Existing rules already cover material climate risks.

Existing rules require companies to disclose material risks regardless of the source or cause of the risk.

SEC rules require disclosure of any "material" financial risk, whether climate, weather, political risk, nuclear war (remember that? Maybe there is something more "existential" than climate!), changes in customer demand, difficulties in getting supplies, and so forth. If we're doing more on climate, it almost necessarily means stepping out of the "material risks" role .

II. The proposal will not lead to comparable, consistent, and reliable disclosures.

... The proposal does not just demand information about the company making the disclosures; it also directs companies to speculate about the habits of their suppliers, customers, and employees; changing climate policies, regulations, and legislation; technological innovations and adaptations; and changing weather patterns. 

To my complaint that changes in weather are just tiny risks, the usual answer is that "transition risks," mostly regulatory risks are the real issue. Pierce:

Required disclosures of so-called transition risks also present these challenges.  The proposal defines “transition risks” broadly as:

the actual or potential negative impacts on a registrant’s consolidated financial statements, business operations, or value chains attributable to regulatory, technological, and market changes to address the mitigation of, or adaptation to, climate-related risks, such as increased costs attributable to changes in law or policy, reduced market demand for carbon-intensive products leading to decreased prices or profits for such products, [JC: how about skyrocketing prices of carbon-intensive products due to regulatory strangulation of supply, like look out the window?] the devaluation or abandonment of assets, risk of legal liability and litigation defense costs, competitive pressures associated with the adoption of new technologies, reputational impacts (including those stemming from a registrant’s customers or business counterparties) [JC: disclose that the twitter mob might be after you] that might trigger changes to market behavior, consumer preferences or behavior, and registrant behavior.[35]

Transition risk can derive from potential changes in markets, technology, law, or the more nebulous “policy,” which companies will have to analyze across multiple jurisdictions and all across their “value chains.”  These transition assessments are rooted in prophecies of coming governmental and market action, but experience teaches us that such prophecies often do not come to fruition.  Markets and technology are inherently unpredictable.  Domestic legislative efforts in this context have failed for decades,[36] and international agreements, like the Paris Accords, have seen the United States in and out and back in again.[37]  

I.e. make up what the regulators want to hear. 

VI. The proposed rule would hurt investors, the economy, and this agency.

Many have called for today’s proposal out of a deep concern about a warming climate and its effects on the planet, people, and the financial system.  It is important to remember, though, that noble intentions, once baked into complex regulatory plans, often have ignoble results.  This risk is considerably heightened when the regulatory complexity is designed to push capital allocation toward politically and socially favored ends,[61] and when the regulators designing the framework have no expertise in capital allocation, political and social insight, or the science used to justify these favored ends.  This proposal, developed under these circumstances, will hurt investors, the economy, and this agency. 

The proposal, if adopted, will have substantive effects on companies’ activities.  We are not only asking companies to tell us what they do, but suggesting how they might do it. [my emphasis]  The proposal uses disclosure mandates to direct board and managerial attention to climate issues.[62]  Other parts of the proposal offer even more direct substantive suggestions to companies about how they should run their businesses.  For example, the Commission suggests that a company could “mitigate the challenges of collecting the data required for Scope 3 disclosure” by “choosing to purchase from more GHG efficient producers,” or “producing products that are more energy efficient or involve less GHG emissions when consumers use them, or by contracting with distributors that use shorter transportation routes.”[63]  And the proposal suggests options for companies pursuing climate-related opportunities as part of a transition plan, including low emission modes of transportation, renewable power, producing or using recycled products, setting goals to help reduce greenhouse gas emissions, and providing services related to the transition to a lower carbon economy.[64]  

If you thought Russia's invasion of Ukraine, its effect on energy prices, our pathetic begging to Iran, Saudi Arabia, and Venezuela to open the spigots, had made a dent in America's self-destructive climate policy--shut down domestic fossil fuels before alternatives are available at scale -- you would be wrong.  

(Thanks to a  colleague who pointed me to these releases.) 

Goodfellows mail

 

Viewer mail, on Ukraine. I think it was a really good conversation. Direct Link

Latest Goodfellows

Ukraine, of course, with Congressman Mike Gallagher, who occasionally gets a wise word in edgewise.

 

If the above embed doesn't work, direct link here at the Hover website, along with podcast for audiophiles.

Irwin on trade reform

Doug Irwin of Dartmouth gave a really informative talk at the Hoover Economic Policy Working Group, based on his paper The Trade Reform Wave 1985-1995, AER May 2022.  Embed (hopefully) below, or go to the link here.  

 

Doug opened my eyes, hence this post. I love learning something new. I'm a resolute Free Trader. So, naturally, I jump to the answer: Stop protecting industries. Get rid of tariffs. Don't bother with the negotiated mercantilism of trade deals -- the "you can sell to us if our exporters can sell to you" deals. The point of a foreign country's exports is to get dollars, and the point of dollars is for them to buy from the US. Full stop. 

Doug reveals that this story is far too simplistic to understand the closed economies of the 1950s through 1970s, and the great trade liberalization that the world experienced starting in the 1980s -- and which we are very sadly likely to lose in the years ahead. A little reminder of what we gained, and a sad peak: 

The process of liberalization started with money, not tariffs: Countries first devalued overvalued currency, usually to a floating rate. Then they eliminated quantitative restrictions on imports including import licenses. Then they reduced tariffs. 

In turn, how did they get there, and why did they not reform earlier? The standard story pits domestic industry vs. consumers. Domestic industries have concentrated interest in protection, consumers are diffuse. That accounts for status quo bias, but not why they eventually changed. 

The source of the problem, and reason for the change is different. Countries (especially in the "developing" world) were hit with a "terms of trade" shock -- they exported commodities, say, to import goods; the commodity price went down so they could not buy imports. Many countries were financing imports with foreign aid and borrowing, and those transfers dried up. 

What do they do? They have to choose between deflation, currency depreciation, or import controls.  Deflation at the same exchange rate makes foreign goods more expensive. Depreciation does the same, without changing the domestic price level. Or, stop imports by direct controls, and by rationing foreign exchange leading to a black market. In the early postwar view, consistent with Bretton Woods, they chose the latter. (Why is there so much nostalgia for Bretton Woods? It was a rotten system.) 

Naturally, it didn't work. Eventually they gave up and devalued or floated the exchange rate. Now there is no need to ration foreign exchange or to restrict imports by license. (Tariffs are bad, but quantitative restrictions are worse, since you never know what the cost is, and then imports are allocated by political rather than economic reasons. Just paying a tax is more efficient!) They moved to exports in order to generate foreign exchange to buy imports. 

So, Doug answers the central question: 

Why no reform in 1970s? “foreign exchange reserves kill the will to reform” 

Oil and commodity export countries were flush with cash to buy imports. Foreign aid recipients had cash to buy imports. 

Why reform in 1980s?

Era of scarce foreign exchange – all three BOP shocks.

Goal: increase foreign exchange earnings by increasing exports.

Learning from experience – cost of import controls, benefit of exports

Shift from import repression to export promotion to overcome foreign exchange shortage 

And, later, 

Michael Bruno (World Bank): “We did more for Kenya by cutting off aid for one year than by giving them aid for the previous three decades”

Aid lets a country put off reform. 

I asked one question, about the importance of an open capital account. That also used to be gospel, now under debate. Doug's answer was interesting: In these cases, a free currency market was crucial, but free capital markets less so. 

Ideas matter.

This process did not just play out in standard political economy terms, one interest group gains power over another. The shift of ideas in universities, the IMF, central banks, and countries was crucial. I find this heartwarming as a producer of ideas, and terrifying as I watch these successful ideas crumble around me. 

Doug discusses the process of reform in Mexico, (which first had disaster under some bad ideas, then reform when a new group of economists came in), India, South Korea and others. Listen to the talk! 

Concluding slide: 

The Biden-Blinken Doctrine

Over the weekend, the U.S. declared a no-fly zone off the table. Secretary Blinken on NBC News with Chuck Todd: 

QUESTION:  ... Why rule out the no-fly zone?  Why not make Putin think it’s possible?

SECRETARY BLINKEN: ...The President’s been very clear... we’re not going to put the United States in direct conflict with Russia, not have American planes flying against Russian planes or our soldiers on the ground in Ukraine, because for everything we’re doing for Ukraine, the President also has a responsibility to not get us into a direct conflict, a direct war, with Russia, a nuclear power, and risk a war that expands even beyond Ukraine to Europe.  That’s clearly not our interest.  What we’re trying to do is end this war in Ukraine, not start a larger one.... 

And by the way, keep in mind what – again, keep in mind what a no-fly zone – just so people understand, too, what a no-fly zone means.  It means that if you declare a space no-fly and a Russian plane flies through it, it means we have to shoot it down.

If country A nakedly invades country B, and country A has the ability to expand to a wider war, especially nuclear, then the US will not fight. Not only we do not fight directly, we do not declare a no-fly zone. If country B has an explicit defense treaty with the US, such as NATO, we might, but otherwise, you're on your own. 

Time for Supply

At Project Syndicate essay, with Jon Hartley. It's not the first, and it won't be the last on the issue! 

Now that surging inflation has refocused everyone's attention on the long-ignored supply side of the economy, the question is how best to support broad-based growth, efficiency, and innovation. The answer is not necessarily deregulation, but the need for smarter regulation is increasingly apparent – even to progressives.

STANFORD – The return of inflation is an economic cold shower. Governments can no longer hope to solve problems by throwing money at them. Economic policy must now turn its attention to supply and its cousin, economic efficiency. 

The issue is deeper than delayed goods deliveries and a year’s worth of sharp price increases. From the end of World War II to 2000, US real (inflation-adjusted) GDP per capita grew 2.3% per year, from $14,171 to $44,177 (in 2012 dollars). Americans became healthier, lived longer, reduced poverty, and paid for a much cleaner environment and a vast array of social programs. But since 2000, that post-war growth rate has fallen almost by half, to 1.4% per year. And it’s worse in Canada and Europe, where many countries have not grown at all since 2010 on a per capita basis. 

Nothing matters more for human flourishing than long-term economic growth. So, no economic trend is more worrisome than growth falling by half, especially for the well-being of the less fortunate. 

The eruption of inflation settles a long debate. Sclerotic growth is not the result of demand-side “secular stagnation,” fixable only with massive fiscal and monetary stimulus. Sclerotic growth is a supply problem. We need policies to increase the economy’s productive capacity – either directly or by reducing costs. 

How? The simplest and most important thing governments can do is to get out of the way. Byzantine regulations and capricious regulatory authorities stymie business. We do not need thoughtless deregulation, but rather smarter regulation that is simple, effective, avoids disincentives and unintended consequences, and is not distorted to protect current business and prop up regulatory empires. That means adding sunset clauses to regulations, regularly re-evaluating existing measures, and instituting a right to external appeal. 

The U.S. and NATO must fight

The U.S. and NATO must fight

(Coauthored with Elizabeth Fama)

Why are we — the U.S., NATO, the civilized western world — not fighting for Ukraine? If we do not fight in Ukraine now, we will fight there later, or in the Baltics, Poland, or Taiwan, at much greater cost. If we do not forcefully reverse this invasion, larger ones will follow.

The next few days and weeks are vital. If the government of Ukraine falls, President Zelenskyy and other leaders of the legitimate government will be jailed or murdered. Russia will annex Ukraine, or install a puppet government with a defense treaty. It will declare Ukraine under the Russian nuclear umbrella. Freeing Ukraine after the fact, re-creating a government, will be much harder and riskier.

Sanctions will not save Ukraine. Sanctions were intended as a deterrent. Sanctions are a punishment. Sanctions are not an effective way to fight a war. They will do little to stop Russia from winning in the next month or two. Sanctions will not achieve what must be our goal: Russian withdrawal, Ukrainian sovereignty, a return to the borders we pledged to uphold in 1994. Cuba, Iran, and North Korea withstood sanctions for decades. So will Russia. 

Now that sanctions have failed to deter Putin, what is the plan? On the current course, if we don’t provide more help, Ukraine loses, the country is destroyed or partitioned, and we settle in for decades of deciding just how much energy Russia sells to Europe, what Europe sells in return, and how much tut-tutting we do about Russia trading with China, Iran, and others. While Putin turns his roving eye to the Baltics.

To save Ukraine, to save its democratically elected government, to save its people, to stop this from happening over and over, allies must  fight.

We have the means. Russia does not have the power of the old Soviet Union, or of Nazi Germany. Russia spends $62 billion a year on its military. The US spends $788 billion. Germany and France spend $53 each, and the U.K. $59. NATO as a whole spends about $1.2 trillion a year on defense, almost twenty times what Russia spends. Our armies are larger, better equipped, and better trained than Russia’s. We lack only the will.

News from Ukraine already suggests unexpected Russian weakness: deficiencies in advanced weapons, tactics, training, supplies, and intelligence. There is a good chance that Russia needs this to be over quickly. If this is true, it is all the more important for us to help Ukraine to hold on.

What can be done in practical terms? NATO can immediately declare a Russian no-fly zone over Ukraine. Denying Russia the skies would critically hamper their invasion. NATO can launch missiles, drones, and airstrikes at Russian army assets. NATO should move invasion forces to the Ukrainian borders. Allies could work closely and directly with the Ukrainian Army, and support their intelligence. The U.S. could unleash our own cyber capabilities. We should protect President Zelenskyy and his government. (The man is a hero.)


We cannot fight, many say, because any engagement of NATO and Russian forces could provoke a nuclear escalation. It’s a legitimate worry. Putin is already capitalizing on this fear by placing nuclear forces on alert in response to sanctions. First, Putin knows the retaliation that would follow. Second, our goal is freedom for Ukraine, not invasion of Russia or regime change in Russia. Nuclear weapons exist to defend a country, not to prosecute aggressive wars, and even Putin knows that. That’s why the potential for nuclear war is higher if we try to free Ukraine after Russia has already subsumed it into its sovereign territory. Most of all, if we cannot ever use our conventional military to stop an unprovoked invasion, we surrender now and watch the Century of Invasions unfold.

We must not fight, others say, in “forever wars” in far-away countries. But in Ukraine we would not be toppling a regime, or “nation-building.” We would be defending and preserving an elected government and its civil society. 

We did this before. In 1990, Saddam Hussein conquered and annexed Kuwait. A coalition of thirty-five nations fought, forced Iraqi troops back to the border, and left. Why did we fight over such a distant piece of land? To stop the next invasion.

We two are not habitual hawks. We recognize that the history of U.S. foreign interventions has included failures. We know that our military cannot rescue millions of people trapped in misery by despots. But the U.S. and our allies must  send a message to those despots that we will not return to a world of naked territorial aggression, and that we will fight, if need be, to stop it.

****

Update.  Bottom line: We must not let Ukraine lose. Do what it takes, calibrate responses, sure, maybe we don't have the right strategy. Maybe big sanctions will do it. Maybe Putin will be overthrown, But letting  Ukraine lose and then settling in for a sanctions negotiation is an unacceptable outcome. Do not let Ukraine lose. 

Important questions unasked of the Fed

This weekend's WSJ essay "How the Fed Averted Economic Disaster"  by Nick Timiraos finally brings into public discussion the second question we should all be asking of the Fed. What happened in the grandest bailout of all time in the covid crisis, and, more importantly, having done it twice, how are we going to avoid massive bailouts becoming the normal state of affairs? (The first question, of course, is "how did you miss inflation so drastically and when are you going to do something about it?") 

They were offering nearly unlimited cheap debt to keep the wheels of finance turning, and when that didn’t help, the Fed began purchasing massive quantities of government debt outright.

Translation: When dealer banks weren't buying treasury debt fast enough, the Fed lend the banks money to buy the debt, and quickly bought up the massive amount of debt themselves. 

The Fed followed by bailing out money market funds, buying state and local government debt, buying exchange-traded funds that held junk corporate debt, and announcing a do whatever it takes pledge to keep corporate bond prices high. It worked

It worked. The Fed’s pledges to backstop an array of lending, announced on Monday, March 23, would unleash a torrent of private borrowing based on the mere promise of central bank action—together with a massive assist by Congress, which authorized hundreds of billions of dollars that would cover any losses.

...Carnival Corp. , the world’s largest cruise-line operator. Its business had collapsed as Covid halted cruises world-wide. Within days of the Fed’s announcement, Carnival was able to borrow nearly $6 billion from large institutional investors...If the hardest-hit companies like Carnival, with its fleet of 104 ships docked indefinitely, could raise money in capital markets, who couldn’t?

Let's be clear who is bailed out here: Creditors. People who lent lots of money to shaky businesses, earned nice high yields in good times, now have the Fed and Treasury bail them out in bad times. 

It worked. 

Today, nearly two years later, most agree that the Fed’s actions helped to save the economy from going into a pandemic-induced tailspin.

I agree. A crisis was imminent, a toppling of a vastly over-leveraged house of cards was in the works. As "just in time" supply chains discovered they needed a bit of extra inventory around, just in time debt financing falls apart at the slightest shock, needing a bit of cash inventory and equity buffer. 

The Fed’s initial response in 2020 received mostly high marks—a notable contrast with the populist ire that greeted Wall Street bailouts following the 2008 financial crisis. North Carolina Rep. Patrick McHenry, the top Republican on the House Financial Services Committee, gave Mr. Powell an “A-plus for 2020,” he said. “On a one-to-10 scale? It was an 11. He gets the highest, highest marks, and deserves them. The Fed as an institution deserves them.”

I also agree, almost. But  

The question now is what will be the long-term costs and implications of that emergency activism—for the Fed, the financial markets and the wider economy. 

This is the question. Why did the economy get into a situation once again, so soon, that the Fed had to engineer this massive bailout? What are you going to do to make sure you don't have to do it again and again? 

More infrastructure snafu

Just as I hit publish on my last post, the Wall Street Journal publishes a much better essay by Ted Nordhaus on the impossibility of building infrastructure in the US, even if it is green alternative energy climate-change infrastructure.

In Nevada’s Black Rock Desert, local environmentalists and devotees of the Burning Man festival are using the National Environmental Policy Act (NEPA) to oppose a geothermal energy plant. Further south, the Sierra Club has joined with all-terrain vehicle enthusiasts to stop development of what would be the nation’s largest solar farm, which it says threatens endangered tortoises. ... proposals to develop wind energy in American coastal regions have also faced a constant barrage of NEPA and Endangered Species Act (ESA) lawsuits designed to stop them.

The Nantucket wind farms are the classic example. Wind farms, yes, but not if it spoils the view of uber-wealthy greens. Sue! On whale-disturbance grounds.