Christopher Hayes: Overcoming America's Debt Overhang ... The Case for Inflation
[Christopher Hayes is the Washington D.C. Editor of The Nation.]
... Historical parallels for our current predicament are difficult to come by. But given that fiscal scolds, inflation fear-mongers, and other critics point to the levels of government of debt rising to WWII levels, it is worth looking at just how the United States recovered from that period of unprecedented debt. The answer, to simplify a bit, was growth and inflation, with the two likely reinforcing each other. From 1948 - 1980, the annual inflation rate was 4.1 percent while real GDP growth averaged 3.7% a year. By 1980, federal government debt held by the public had been cut by more than half, falling from 84 percent of GDP in 1948 to just over 26 percent.
If attempting a repeat of this kind of performance seems a taboo suggestion, it is because in many ways it is. But this crisis has not been kind to orthodoxy. Nearly everything touted by economists and policy makers as the engines of American prosperity--low interest rates; increasing home ownership; financial innovation and deregulation; and globalization--have in one way or another played a role in bringing the global economy to the edge of collapse. And some of the most poisonous axioms--deregulation is always good; it is difficult to recognize a bubble until it has burst; markets police themselves; Alan Greenspan is a "maestro"--have already (rightly) come in for sustained re-examination.
Inflation fears will have to be the next orthodoxy to be slain. Before American policy makers can even be brought around to considering the taboo, cooler heads must prevail over the hysteria of the inflation fear-mongers. Earlier this summer, just one week of declining Treasuries prices provoked an avalanche of warnings that "the United States will be Zimbabwe before we know it."
"All in all," wrote Paul Krugman recently, "much of the current inflation discussion calls to mind what happened during the early years of the Great Depression when many influential people were warning about inflation even as prices plunged." As the British economist Ralph Hawtrey wrote, "Fantastic fears of inflation were expressed. That was to cry, Fire, Fire in Noah's Flood."
And yet, remarkably, given the totemic hold low inflation holds in the imagination of the economic elite, there is a gathering (though admittedly still small) chorus of voices from across the ideological spectrum advocating for a pro-inflationary policy, at least in the short term.
Greg Mankiw, former Chair of the Council of Economic Advisors under George W. Bush, argues that the Fed must make a credible commitment to inflation over the medium term in order to produce negative real interest rates, avoid a deflationary trap, and boost demand. In arguing in the Financial Times for a "pre-announced, temporary, globally co-ordinated bout of moderate inflation," the London School of Economics' Tim Leunig notes that 4 percent annual inflation would "help government finances by inflating away 10 per cent of total government debt," which would confer both "equity and efficiency benefits. It is (more) equitable as the cost of recession will be borne by wealth holders as well as income generators, and it is (more) efficient in that it reduces the extent of incentive-reducing tax rises on income in the future." It would also reduce negative equity in homes, taking some pressure off of those who are underwater and lift the debt servicing burden for both large banks and private households.
George Cooper, a British fund manager, comes to a similar conclusion at the end of his book The Origin of Financial Crises. In the wake of the crisis, he argues we are faced with three options: One, what he dubs the "free market" solution, is to simply allow the crisis to run its course. This is the "liquidationist" policy infamously advocated by Andrew Mellon in response to the beginnings of the Great Depression. A second would be to attempt to create an even larger credit-fueled bubble to offset the damage from the bursting of this one (more or less what Greenspan pursued in the wake of the dot-com bubble bursting). "The third option," he writes, "is to engage the printing press. Use the printing press to pay off the outstanding stock of debt, either directly with state handouts or indirectly with inflationary spending policies." While this strategy, in Cooper's view, is "deeply unpalatable," it is, he argues "the least inadvisable of the three available options."
But perhaps the most unabashed advocate of the policy has been Harvard University's Kenneth Rogoff. "I'm advocating 6 percent inflation for at least a couple of years," the one-time chief economist at the IMF recently told Bloomberg. "It would ameliorate the debt bomb and help us work through the deleveraging process....There's trillions of dollars of debt, in mortgage debt, consumer debt, government debt...It's a question of how do you achieve the deleveraging. Do you go through a long period of slow growth, high savings and many legal problems or do you accept higher inflation?" ...
Read entire article at New America website
... Historical parallels for our current predicament are difficult to come by. But given that fiscal scolds, inflation fear-mongers, and other critics point to the levels of government of debt rising to WWII levels, it is worth looking at just how the United States recovered from that period of unprecedented debt. The answer, to simplify a bit, was growth and inflation, with the two likely reinforcing each other. From 1948 - 1980, the annual inflation rate was 4.1 percent while real GDP growth averaged 3.7% a year. By 1980, federal government debt held by the public had been cut by more than half, falling from 84 percent of GDP in 1948 to just over 26 percent.
If attempting a repeat of this kind of performance seems a taboo suggestion, it is because in many ways it is. But this crisis has not been kind to orthodoxy. Nearly everything touted by economists and policy makers as the engines of American prosperity--low interest rates; increasing home ownership; financial innovation and deregulation; and globalization--have in one way or another played a role in bringing the global economy to the edge of collapse. And some of the most poisonous axioms--deregulation is always good; it is difficult to recognize a bubble until it has burst; markets police themselves; Alan Greenspan is a "maestro"--have already (rightly) come in for sustained re-examination.
Inflation fears will have to be the next orthodoxy to be slain. Before American policy makers can even be brought around to considering the taboo, cooler heads must prevail over the hysteria of the inflation fear-mongers. Earlier this summer, just one week of declining Treasuries prices provoked an avalanche of warnings that "the United States will be Zimbabwe before we know it."
"All in all," wrote Paul Krugman recently, "much of the current inflation discussion calls to mind what happened during the early years of the Great Depression when many influential people were warning about inflation even as prices plunged." As the British economist Ralph Hawtrey wrote, "Fantastic fears of inflation were expressed. That was to cry, Fire, Fire in Noah's Flood."
And yet, remarkably, given the totemic hold low inflation holds in the imagination of the economic elite, there is a gathering (though admittedly still small) chorus of voices from across the ideological spectrum advocating for a pro-inflationary policy, at least in the short term.
Greg Mankiw, former Chair of the Council of Economic Advisors under George W. Bush, argues that the Fed must make a credible commitment to inflation over the medium term in order to produce negative real interest rates, avoid a deflationary trap, and boost demand. In arguing in the Financial Times for a "pre-announced, temporary, globally co-ordinated bout of moderate inflation," the London School of Economics' Tim Leunig notes that 4 percent annual inflation would "help government finances by inflating away 10 per cent of total government debt," which would confer both "equity and efficiency benefits. It is (more) equitable as the cost of recession will be borne by wealth holders as well as income generators, and it is (more) efficient in that it reduces the extent of incentive-reducing tax rises on income in the future." It would also reduce negative equity in homes, taking some pressure off of those who are underwater and lift the debt servicing burden for both large banks and private households.
George Cooper, a British fund manager, comes to a similar conclusion at the end of his book The Origin of Financial Crises. In the wake of the crisis, he argues we are faced with three options: One, what he dubs the "free market" solution, is to simply allow the crisis to run its course. This is the "liquidationist" policy infamously advocated by Andrew Mellon in response to the beginnings of the Great Depression. A second would be to attempt to create an even larger credit-fueled bubble to offset the damage from the bursting of this one (more or less what Greenspan pursued in the wake of the dot-com bubble bursting). "The third option," he writes, "is to engage the printing press. Use the printing press to pay off the outstanding stock of debt, either directly with state handouts or indirectly with inflationary spending policies." While this strategy, in Cooper's view, is "deeply unpalatable," it is, he argues "the least inadvisable of the three available options."
But perhaps the most unabashed advocate of the policy has been Harvard University's Kenneth Rogoff. "I'm advocating 6 percent inflation for at least a couple of years," the one-time chief economist at the IMF recently told Bloomberg. "It would ameliorate the debt bomb and help us work through the deleveraging process....There's trillions of dollars of debt, in mortgage debt, consumer debt, government debt...It's a question of how do you achieve the deleveraging. Do you go through a long period of slow growth, high savings and many legal problems or do you accept higher inflation?" ...