The other day we saw that putative Democrat Larry Summers advocated for driving up the unemployment numbers to solve the inflation problem. People like Summers, love seeing the unemployment rate at around 5-6%, but they really get off when it goes up to 10%… and unions lose all their bargaining power. Summers: “We need five years of unemployment above 5 percent to contain inflation— in other words, we need two years of 7.5 percent unemployment or five years of 6 percent unemployment or one year of 10 percent unemployment.” That didn’t get much coverage by the media, did it, although I noticed in her Wall Street Journal OpEd this morning, Elizabeth Warren picked up on it.
Today Senator Warren penned what should be an explosive piece for The Journal, Jerome Powell’s Fed Pursues a Painful and Ineffective Inflation Cure. “Even as the pandemic continues to take its toll,” she wrote, “the U.S. has experienced a surprisingly strong economic recovery. Since President Biden’s inauguration, the U.S. economy has created nine million new jobs. Private-sector jobs have fully recovered. Yet the Federal Reserve, led by Jerome Powell, is on the verge of sacrificing all this progress in its effort to tamp down inflation. With Powell expected to announce another round of aggressive interest-rate hikes, the Fed risks triggering a devastating recession.”
Inflation is a global phenomenon inflicting significant financial pain on families everywhere. Rising costs are an urgent problem, and interest rates play a key role in maintaining price stability. But urgency is no excuse for doubling down on a dangerous treatment. As with any illness, the right medicine starts with the right diagnosis. Unfortunately, the Fed has seized on aggressive rate hikes— a big dose of the only medicine at its disposal— even though they are largely ineffective against many of the underlying causes of this inflationary spike.
Powell has acknowledged this. Testifying before the Senate Banking Committee in June, he noted that elevated interest rates likely wouldn’t bring down gasoline or food prices. “There are many things we can’t affect,” he admitted in a June press conference— namely, the key causes of today’s inflation. Higher interest rates won’t end skyrocketing energy prices caused by Vladimir Putin’s war on Ukraine. They won’t fix supply chains still reeling from the pandemic. And they won’t break up the corporate monopolies that Powell admitted in January could be “raising prices because they can.”
If the Fed’s interest-rate hikes won’t address many causes of today’s inflation, it’s worth asking: What would they do?
When the Fed raises interest rates, increasing the cost of borrowing money, it becomes more expensive for businesses to invest in their operations. As a result, employers will slow hiring, cut hours and fire workers, leaving families with less money. In the bloodless language of economists, that’s referred to as “dampening demand.” But make no mistake: If the Fed cuts too much or too abruptly, the resulting recession will leave millions of people— disproportionately lower-wage workers and workers of color— with smaller paychecks or no paycheck at all.
The likelihood that overzealous rate hikes trigger a recession is growing. Goldman Sachs cautioned that the Fed’s policy is more aggressive than necessary and doubled its forecast of the likelihood that the economy falls into a recession over the next year. Nobel Prize-winning economist Peter Diamond has warned about the substantial risk of a crash landing from the Fed’s aggressive approach. Powell has even conceded that the Fed’s actions may lead to a downturn, saying recession “is not our intended outcome at all, but it’s certainly a possibility.”
Despite these warnings, the Fed chairman still has cheerleaders for his rate-hiking approach. Chief among them is Larry Summers. “We need five years of unemployment above 5% to contain inflation— in other words, we need two years of 7.5% unemployment or five years of 6% unemployment or one year of 10% unemployment,” the former Treasury secretary recently told the London School of Economics. You read that correctly: 10% unemployment. This is the comment of someone who has never worried about where his next paycheck will come from.
If Powell and Summers have their way, the resulting recession will be brutal. As in past downturns, Republicans in Congress will press for austerity— tax cuts for giant corporations and the rich, weaker regulation on big businesses, and little economic support for the most vulnerable. Democrats should be ready to reject the Republican playbook and prepared to help working families survive.
But it doesn’t have to be this way. The Biden administration recognizes the U.S. has many tools for fighting inflation that wouldn’t make the economy smaller and Americans poorer. The president has undertaken a range of actions. To relieve the pain at the pump imposed by Putin’s war, the president ordered the largest-ever release of strategic oil reserves and spurred one of the fastest declines in gasoline prices in more than a decade. To lower food prices, he dedicated $1 billion to expand meat-processing capacity. To straighten out supply-chain kinks, Biden has tackled shipping-container backlogs at our ports. And to combat corporate monopolies using inflation as an excuse to pad their profits, the president has empowered the most aggressive antitrust enforcers in a generation.
Congress should do its part to fight inflation. Investing in high-quality, affordable child care would lower costs by bringing more than a million parents into the workforce. Ending tax breaks for off-shoring and investing in American manufacturing would create good jobs and strengthen supply chains. Allowing Medicare to negotiate prices for prescription drugs would lower healthcare costs. And giving the Biden administration more tools to bolster competition policy would help crack down on price gouging by large corporations.
Before the Federal Reserve triggers a recession, Powell should remember that the one medicine in his kit doesn’t treat every economic illness. Low unemployment and high inflation are painful, but a Fed-manufactured recession that puts millions of Americans out of work without addressing high prices would be far worse.