Milan - you write a real good take. This is as good as anything I've read on the current state of inflation. And I've read a fair amount. Congratulations and keep up the great work. For what it's worth my take is that there should be a soft landing, unless the Fed becomes needlessly sadistic. Among other things, there's this piece by Connor Sen in Bloomberg from 10 days ago:
Anecdotally, the apartment building where my wife and I live while we're looking for a new house is now offering $1,000 bonuses for new renters. When we rented in July, there were only 4 vacancies out of 340 units. Quite the reversal. No one asked but I think by July-Sept core PCE will be in the threes YOY and the fed will be looking at rate decreases by year end. Anyway, your piece was a real pleasure to read. Best regards.
Right? This is not the first time I've been two-thirds of the way through a SB post before realizing that Matt didn't write it. If Milan wanted to quit school tomorrow and start a full-time career in the take-slinging business I'm pretty sure he'd get away with it—a fact which fills my middle-aged-and-still-unsuccessful heart with some ambivalence, but what are ya gonna do?
I’m more a dove than a hawk, but Claudia Sahm’s complete apathy toward the inflation rate shows the type of contempt for voters that leads to bad things down the line. We can try to convince people they should care about different things, but we can’t really choose what voters care about, and inflation is very unpopular (I’d argue the same point on entitlements to conservatives who have issues with them - it’s a democracy and voters like social security, deal with it).
You got "contempt for voters" out of her preference for more inflation in the short term as the price for a better labor market? I think one can have a principled disagreement with her view of the economics of this trade-off, sure, never mind the politics. But it's not self-evidently crazy to prioritize jobs, much less "contemptuous" to sincerely hold such a view. Jobs are good! Also, she cites the fact that inflation is "coming down" so, she doesn't seem to be apathetic about inflation as such. She would appear to believe (rightly or wrongly) that the inflation situation is improving. Hell, maybe she's correct.
Also, I've been *very* nervous over the past year about the impact of elevated inflation on the prospects of the Democratic Party. And I still am. Still, we can't visit the parallel universe where the economy got inadequate support in 2020-2021. Maybe in that universe voters don't appreciate the subdued inflation because they're angry at the shitty job market.
You have never written something that I disagree with more. Jobs are fundamentally about having a purpose in life. Something you do not because it's fun (it might be sometimes!), but because what it allows you to accomplish is sufficiently worthy to endure.
I'm not sure how this is relevant to what I said. I'm not opposed to tools making work better or even technology making certain types of work obsolete. Some people work jobs because of the purpose intrinsic to the job. Others are in their job not because of the work, but because it provides for themselves or their family. My point is that even were I a billionaire, I would still want to wake up each day with a purpose that deserved my passion and effort regardless of whether I wanted to do it that day. I call that a job.
"...even were I a billionaire, I would still want to wake up each day with a purpose that deserved my passion and effort regardless of whether I wanted to do it that day..."
Fair. But I'm not sure that's what Jasper_in_Communist_China meant.
In the real world, it doesn't have to be a contrived econ 101 either/or.
I would say it's good for people to have jobs in order to feel accomplished/effectual, build skills, and have something (more or less) meaningful to do. At any level of technology, for any individual, the details of what that means will vary. Most jobs don't fulfill those goals perfectly, but they're better than nothing.
If inflation were low and unemployment high, then voters would care a lot about the unemployment and not be particularly assuaged by the lack of inflation. Not to disrespect our most enlightened, not at all contemptible voters, but they’re not usually very good at understanding trade-offs or counterfactuals.
I’m not sure if the (right wing) outrage over the (phantom) inflation of the Obama years supports or detracts from that point.
I don’t think Obama paid a political price for the fake inflation and the GOP phantom inflation panic really got nowhere among normal people. But in summer 2022, even among my normie liberal friends inflation/gas prices were one of the main topics of conversation.
Anyway maybe Sahm’s quote there was just a bad soundbite, but the inflation denier strand on the left is very real, it is bad, and it needs to be confined to the fringes where it belongs.
In summer 2022, inflation/gas prices were a /topic of conversation/ among everyone I know, but I wasn't hearing very much rabble rabble Biden/Democrat blame about it. More Russia invasion/pandemic aftermath chatter.
None of my liberal friends blamed Biden for it, moderate to conservative friends and family members did though. But nobody was really excited about Biden from the vibes perspective and at least in my opinion it was probably at least partly related to the economy. Also sample size of 1 of course
You could say nearly the same things about any issue, because everyone's personal favorite inviolable "voters" are also someone else's citizens who are just going to practice some social responsibility and compromise for the good of the country. If we play that game persistently, we just wind up at the same intransigent resolve about anything, throwing our hands up, fretting that some unpopular things are completely unpopular, and claim the "elites are out of touch."
The thing is, in the inflation/employment duality, the only "voters" it's actually, absolutely, unambiguously bad for, are debt contract holding credit goons (the type that have enough money and influence they can pay to tell what politicians and voters care about.) They hate it, because they don't actually produce anything for which they can charge a higher price. They simply have to deal with the fact people are paying off their old debts and liabilities with deflated currency, and yet still have bills to pay to various suppliers of goods and services.
But it is good for folks with debts they have to pay!
If wages can manage to keep up with inflation, and the distribution of wage increases are equitable, most working folks will hardly notice.
What's good is folks can ask for higher wages, when there's a tight job market! When it's easy for workers to get poached to a better job, or play hardball with HR, or some companies try to pull more folks in off the sidelines into the labor market, then it can be somewhat of a virtuous cycle.
What's even better, is that with good labor policy, good education policy, good industrial policy, and the right subsidies, the state can even put their thumb on the scale, to keep the labor market tight, and get better, more efficient production, such that the price of things go down.
This is what some folks call "economic growth."
Otherwise, you can claim that voters are only going to care about whatever it is they are going to care about, but the circular logic doesn't get us anywhere, especially in the face of the apparent effectiveness of all the media outlets telling folks what they should care about. And they must have learned to care about it from somewhere right???
(Unfortunately, in their own way, folks living off of savings or a retirement plan also count as "debt contract" holders, because they're getting paid back for money and energy they deposited elsewhere years earlier. But thankfully, again, through the power of policy, the state can keep these people propped up with subsidies to maintain their quality of life. It's often even inflation adjusted on a yearly basis! Even Republicans aren't dumb enough to show that actual contempt for the very real voters, even while threatening they're going to shoot the hostage if they can't blow up the national debt.)
I mean I think gas taxes should be $10 a gallon for climate change reasons, but I’m not a politician. If a politician said that in a primary, I would vote against them. Because at some level, democracy means accepting that the opinion of voters matters. It doesn’t mean you have to ignore climate change or unemployment but it is a real restriction on how you can deal with those issues.
I'd say that high unemployment is morally worse than high inflation (because it concentrates the pain on the least powerful) but politically it's the reverse, because it affects everyone.
I suspect voters don't pay too much attention to the y/y or m/m numbers but mostly gauge inflation by what they see at the gas station and the grocery store.
I'm actively trying to hire a couple of technical/engineering writers, typically MS with work experience, and it's very rare for me to get writing sample submissions as good as this.
>Food $200
>Data $150
>Rent $800
>Candles $3,600
>Utility $150
>someone who is good at the economy please help me budget this. my family is dying
so I don't know if the conclusions are sound (really just not my area at all), but the writing is very good.
Thanks for referencing the New Zealand target. 2% is totally arbitrary! There's nothing magical around it. The Fed could just as easily say, "we've looked at the data and 3% (or 4%) is a more appropriate target because it gives us wiggle room on the low end of interest rates." The Great Recession should have caused a change in thinking around this, but it doesn't look like it has.
It strikes me there is something really wrong with the CPI measure of rent if the lag is that large. Arguably it a major reason for the Feds policy mistakes - not recognizing inflation when it first started going up, and being too slow to react when it is going down.
I don't think its that simple. Let's say that the price of eggs jump from $2 per dozen to $5 per dozen in a month. Then decline .50 cents a month for the next three months before stabilizing at $3.50. Should people be thrilled prices are dropped 30% or freaked out that they 175% higher than they were?
Since most people's wages change on an annual basis, they are probably going to think about that way.
I agree that most people experience inflation in terms of how it impacts their budget. I get the normie perspective inside my household on a regular basis and she definitely doesn't want to here "ackchyually" about how inflation is moderating.* This is especially true when the grocery budget is up 25% from last year and we're going to have to reallocate money from other parts of the budget to cover this. Which also suggests to me that if media came out and said that, you'd get what I hear all the time that "media is biased" or "they don't really count true inflation."
*Don't ask me how I know she doesn't want to hear it. I'm pretty smart on some things, but apparently there are others that are impossible for me to learn.
Part of the problem for all this is that most of our data lags by at least a month and often a quarter - and revisions in the data are common! Add in the fact that the average journalist doesn't understand this any better most people and is trying to translate econ speak they barely comprehend into something that the average person will read/listen/watch.
2) You also have to understand that media is driven in large part by the audience. The audience doesn't want to hear that prices rose a bunch last quarter we're waiting on reports to see what's happening this quarter. They want information that suggests stuff is happening right now.
Noting that the Fed shouldn't care about the price in eggs specifically, of course, I'd also note that for people who *do* care (i.e., shoppers) they get real-time information on egg prices by driving to the grocery store. Just did that this morning. Spoiler alert: damn, egg prices are still very high.
I hear you and I think you make a good point about the media reporting a distorted number. But I think you have the causality backwards. Most of the time inflation is mild and incredibly boring. But occasionally it spikes and consumers freak out about the prices which THEN leads to media reporting on it, talking about causes, applying actual numbers to it, etc. What I don't think is happening is media reports on it and THAT causes people to freak out. And as Marc notes below, consumers generally have a set price in their head for many things and if the prices jumps above that, even if it then stabilizes, it takes time for consumers to adjust to the new equilibrium. They will continue to think inflation is high for as long as that takes.
"I highly doubt that a college freshman (even one as intelligent, charming, and humble as myself) has a better sense of what’s going on in the macroeconomy than the experts at the Fed or professional bond traders. "
Let's be real here - economic experts almost always get projections wrong. Economics is not a predictive science, as has been shown time and again, most recently with the vast majority of them believing in the "transitory" hypothesis. There is no reason to think that your calculus and arguments are any less likely to be accurate than theirs.
My own non-expert view is that the fed should hold off on further increases and see what happens with the ones it's already done, since interest rate increase have lagging effects.
The problem is that "predictions" (and to be a bit defensive, these are usually not made by "real" economists, but newspaper writers) are almost always un conditional. Was 2021 inflation going to be "temporary?" Well that depended on what the Fed was going to do. I was surprised at how un-"temporary" inflation was becasue I was surprised that the Fed did not start raising the FF rate until 6 months after the TIPS inflation expectations rate indicators rose above target.
Sure, all predictions require assumptions. Whether economists are bad at the prediction part or the assumption part doesn't change the fact that their forecasts for things like inflation and recessions are not very good. The fact the the Fed seemed to think nothing was wrong and acted late is part of that problem, and I would guess that they assumed the "transitory" inflation hypothesis like most everyone else.
And I do want to make clear that I'm not trying to dump on economics as a profession, but I do think there should be a lot more humility and uncertainty when it comes to forecasting.
No, I think that is the key difference, above all the difference that consumers of predictions should make. How much a rock will hurt your toe depends on both the gravitational constant AND whether it is dropped on the toe or not.
When the Fed said inflation was temporary, did it mean that, "with nothing more from us, it will be temporary" or "we will do what it takes to make sure it is temporary." We NOW know it was the former, but we should have been told at the beginning
Sure, that's a longstanding problem but it's still relevant that the Fed was simply wrong on inflation, as were most economists.
The point is how much should we trust the forecasts of economists, especially those in key places like the Fed? And I think that answer to that is "not much." And not because I think they are bad at forecasting, or are biased in some way (athough such problems existing in any forecasting endeavor), but because macroeconomic forecasting is really hard and after decades of effort, experts are not very good at it. That tells me that a lot of macroeconomic factors are simply emergent and cannot be predicted.
The Fed is not supposed to be "forecasting" inflation." They are supposed to be controlling it. Is that did not say it was temporary in 2021, they would have been announcing a change in their target. The point is we could have supposed it to mean, "we will make sure it is temporary."
Sure, but controlling inflation requires forecasts about what the economy will do, including inflation. Members of the FOMC do submit forecasts - including on measures of inflation, which are an input to Fed decision making.
I contend that it seemed obvious *at the time* that the ARP was too big and could lead to inflation. On top of that, the PPP was largely a cash grab by businesses and anyone clever enough to claim to be a business.
I don't think I'm smarter than a bunch of professional economists, so what were they seeing that made them so hesitant?
On the ARP specifically, I think they *did* see the risk of inflation, and people said it at the time. But inflation isn’t the only thing people care about, so they were willing to take the risk because they wanted to lower the risk of a long span of high unemployment like after 2008.
This is what makes economic measures so difficult. If you have a plan, and your best estimate is that it has a 90% chance of getting unemployment below your goal but a 40% chance of causing significant inflation, is that worth it? Is it better than a plan that’s 50% / 10%? That’s a really hard question, and I think one without a right answer. You take your best shot and then sometimes bad things happen anyway, even things you knew might happen, and that’s how it goes.
Part of the problem is that we don't know how much inflation the ARP and PPP might have caused, and how much might have been caused by supply chain issues.
We had groups of people emphasizing one or the other when it came to what they predicted regarding inflation, but they didn't really know.
Since I just posted 3 comments critical of Matt's analysis I should still say it is HUGELY better than the drivel one will typically find in the NYT/Bloomberg/WSJ or hear from even intelligent politicians. He obviously got a lot more out of his econ classes than most people did theirs.
Seriously, economics s just refined common sense and there is no reason that someone might not refine their common sense on their own. And a lot of classes is, unfortunately, devoted to leaning the jargon "marginal value product" instead of concepts.
I’ll spare you my own cost benefit analysis of Fed interest rate movements in the immediate future and go to:
“But let’s say it’s the middle of 2023, inflation is sitting at 3% and unemployment is at 4 or 4.5%. Is it worth raising unemployment by another point to get inflation down to 2%?”
Well, the question at that point would be, is it necessary or can we just wait and see if the rate setting trajectory up until that point might still bring it down to 2%.
I would argue that changing the target should not depend on conjunctural factors, although they might influence WHEN the change is made. Harking back to my earlier comment today about why we want any inflation AT ALL – shocks that require changes in relative prices when some prices cannot fall – it follows that the target for average inflation ought to depend on the average size and frequency of the expected shocks. Have shocks gotten larger? Was 2% optimal for the size of past shocks? I do not know, but THOSE are the questions I would want the Fed to answer for itself.
I really have not much of an idea of how the idea of adjusting the FAIT target would go down. Clearly the fear is that it would be interpreted as "the Fed has given up even TRYING to control inflation." And since it looks to me like we have only had a short period of supposedly trying 2% FAIT, I don't see much reason to change it now. And I think the case for the Fed pausing FF hikes is pretty much the same right now whether we are aiming for 2 or 3% FAIT.
Hey Milan, I'm completely on board with the 3% inflation rate (no one thinks 3% average inflation is devastating and some more wiggle room in a recession is better than getting trapped at the 0 lower bound).
But I've got a question about the expectations part of inflation targeting every expert just seems to be asserting. This part seem non-scientific. Is there any social psychology research on impacts of adjusting inflation targets (or similar policy moves)? Or are the economists just going with their guts here? Maybe setting the inflation target to 3% when you're at 5% annualized inflation is actually quite bad! But maybe setting the inflation target to 3% when you've made it to 2.5% is fine? Genuinely unsure, but since you've clearly gone through the literature and talked to the right people, curious if there's anything on this.
To me the problem is the diminishing returns from interest rate hikes to go from 3% to 2%. If it were costless to do so then, fine, protect your credibility, Fed. If it takes a two percentage point jump in the unemployment rate to get that last one percentage point drop in inflation, then I'm getting off the bus.
Wage increases have not kept up with inflation. So, wasn't the inflationary stimulus a backhanded way of increasing labor demand by lowering wages?
In other words, to use a highly technical term I saw when browsing through my son's economics textbook, wages were "sticky" and it took inflation to "un-stick" real wages.
I'm a bit of a hawk just because inflation can wreak so much havoc with the economy. I strongly disagree with Sahm's quote as stated, but I am glad that at full employment more people are building skills and track records and hopefully moving up the ladder. The financial crisis in particular and the Covid crisis have really messed up a lot of people's careers, and a little bit of a hot job market will help make up for that.
Why isn’t a fiscal measure like a temporary special tax on the top quarter of income earners part of the toolkit? Too politically fraught? Or does it not target the best-off as well as I’m thinking it might?
My financial advisor says put off buying or repairing anything you can until the Congress manages to raise the debt ceiling. Markets will drop as the real deadline gets closer and who knows what will happen if the crazies prevail. So keep on hand as much cash as possible so you don’t have to dip into a depleted retirement fund. As this realization spreads, demand will go down. Meanwhile, I’m dropping my catalogs into the trash without reading them.
Milan - you write a real good take. This is as good as anything I've read on the current state of inflation. And I've read a fair amount. Congratulations and keep up the great work. For what it's worth my take is that there should be a soft landing, unless the Fed becomes needlessly sadistic. Among other things, there's this piece by Connor Sen in Bloomberg from 10 days ago:
https://www.bloomberg.com/opinion/articles/2023-01-09/rental-housing-is-suddenly-headed-toward-a-hard-landing
Anecdotally, the apartment building where my wife and I live while we're looking for a new house is now offering $1,000 bonuses for new renters. When we rented in July, there were only 4 vacancies out of 340 units. Quite the reversal. No one asked but I think by July-Sept core PCE will be in the threes YOY and the fed will be looking at rate decreases by year end. Anyway, your piece was a real pleasure to read. Best regards.
>Milan - you write a real good take.
Right? This is not the first time I've been two-thirds of the way through a SB post before realizing that Matt didn't write it. If Milan wanted to quit school tomorrow and start a full-time career in the take-slinging business I'm pretty sure he'd get away with it—a fact which fills my middle-aged-and-still-unsuccessful heart with some ambivalence, but what are ya gonna do?
I’m more a dove than a hawk, but Claudia Sahm’s complete apathy toward the inflation rate shows the type of contempt for voters that leads to bad things down the line. We can try to convince people they should care about different things, but we can’t really choose what voters care about, and inflation is very unpopular (I’d argue the same point on entitlements to conservatives who have issues with them - it’s a democracy and voters like social security, deal with it).
You got "contempt for voters" out of her preference for more inflation in the short term as the price for a better labor market? I think one can have a principled disagreement with her view of the economics of this trade-off, sure, never mind the politics. But it's not self-evidently crazy to prioritize jobs, much less "contemptuous" to sincerely hold such a view. Jobs are good! Also, she cites the fact that inflation is "coming down" so, she doesn't seem to be apathetic about inflation as such. She would appear to believe (rightly or wrongly) that the inflation situation is improving. Hell, maybe she's correct.
Also, I've been *very* nervous over the past year about the impact of elevated inflation on the prospects of the Democratic Party. And I still am. Still, we can't visit the parallel universe where the economy got inadequate support in 2020-2021. Maybe in that universe voters don't appreciate the subdued inflation because they're angry at the shitty job market.
“Jobs are good”
No, production is good; jobs are a necessary evil.
You have never written something that I disagree with more. Jobs are fundamentally about having a purpose in life. Something you do not because it's fun (it might be sometimes!), but because what it allows you to accomplish is sufficiently worthy to endure.
Is there more purpose in twenty ditch-diggers working with spades and pickaxes versus one working with an excavator?
I'm not sure how this is relevant to what I said. I'm not opposed to tools making work better or even technology making certain types of work obsolete. Some people work jobs because of the purpose intrinsic to the job. Others are in their job not because of the work, but because it provides for themselves or their family. My point is that even were I a billionaire, I would still want to wake up each day with a purpose that deserved my passion and effort regardless of whether I wanted to do it that day. I call that a job.
"...even were I a billionaire, I would still want to wake up each day with a purpose that deserved my passion and effort regardless of whether I wanted to do it that day..."
Fair. But I'm not sure that's what Jasper_in_Communist_China meant.
In the real world, it doesn't have to be a contrived econ 101 either/or.
I would say it's good for people to have jobs in order to feel accomplished/effectual, build skills, and have something (more or less) meaningful to do. At any level of technology, for any individual, the details of what that means will vary. Most jobs don't fulfill those goals perfectly, but they're better than nothing.
"...it's good for people to have jobs in order to feel accomplished/effectual, build skills, and have something (more or less) meaningful to do"
"More" would be more.
>>You have never written something that I disagree with more.
Kenny be trollin'. And in other news the sun rose in the east this morning.
If inflation were low and unemployment high, then voters would care a lot about the unemployment and not be particularly assuaged by the lack of inflation. Not to disrespect our most enlightened, not at all contemptible voters, but they’re not usually very good at understanding trade-offs or counterfactuals.
I’m not sure if the (right wing) outrage over the (phantom) inflation of the Obama years supports or detracts from that point.
I don’t think Obama paid a political price for the fake inflation and the GOP phantom inflation panic really got nowhere among normal people. But in summer 2022, even among my normie liberal friends inflation/gas prices were one of the main topics of conversation.
Anyway maybe Sahm’s quote there was just a bad soundbite, but the inflation denier strand on the left is very real, it is bad, and it needs to be confined to the fringes where it belongs.
In summer 2022, inflation/gas prices were a /topic of conversation/ among everyone I know, but I wasn't hearing very much rabble rabble Biden/Democrat blame about it. More Russia invasion/pandemic aftermath chatter.
sample size 1, of course
None of my liberal friends blamed Biden for it, moderate to conservative friends and family members did though. But nobody was really excited about Biden from the vibes perspective and at least in my opinion it was probably at least partly related to the economy. Also sample size of 1 of course
You could say nearly the same things about any issue, because everyone's personal favorite inviolable "voters" are also someone else's citizens who are just going to practice some social responsibility and compromise for the good of the country. If we play that game persistently, we just wind up at the same intransigent resolve about anything, throwing our hands up, fretting that some unpopular things are completely unpopular, and claim the "elites are out of touch."
The thing is, in the inflation/employment duality, the only "voters" it's actually, absolutely, unambiguously bad for, are debt contract holding credit goons (the type that have enough money and influence they can pay to tell what politicians and voters care about.) They hate it, because they don't actually produce anything for which they can charge a higher price. They simply have to deal with the fact people are paying off their old debts and liabilities with deflated currency, and yet still have bills to pay to various suppliers of goods and services.
But it is good for folks with debts they have to pay!
If wages can manage to keep up with inflation, and the distribution of wage increases are equitable, most working folks will hardly notice.
What's good is folks can ask for higher wages, when there's a tight job market! When it's easy for workers to get poached to a better job, or play hardball with HR, or some companies try to pull more folks in off the sidelines into the labor market, then it can be somewhat of a virtuous cycle.
What's even better, is that with good labor policy, good education policy, good industrial policy, and the right subsidies, the state can even put their thumb on the scale, to keep the labor market tight, and get better, more efficient production, such that the price of things go down.
This is what some folks call "economic growth."
Otherwise, you can claim that voters are only going to care about whatever it is they are going to care about, but the circular logic doesn't get us anywhere, especially in the face of the apparent effectiveness of all the media outlets telling folks what they should care about. And they must have learned to care about it from somewhere right???
(Unfortunately, in their own way, folks living off of savings or a retirement plan also count as "debt contract" holders, because they're getting paid back for money and energy they deposited elsewhere years earlier. But thankfully, again, through the power of policy, the state can keep these people propped up with subsidies to maintain their quality of life. It's often even inflation adjusted on a yearly basis! Even Republicans aren't dumb enough to show that actual contempt for the very real voters, even while threatening they're going to shoot the hostage if they can't blow up the national debt.)
I mean I think gas taxes should be $10 a gallon for climate change reasons, but I’m not a politician. If a politician said that in a primary, I would vote against them. Because at some level, democracy means accepting that the opinion of voters matters. It doesn’t mean you have to ignore climate change or unemployment but it is a real restriction on how you can deal with those issues.
It's really not obvious if you think politicians should make no compromises at all, or some compromises, but only if no one doesn't like them.
Either way, your implied ideas of democracy, consent of the governed, and an informed electorate, doesn't leave many other options.
I'd say that high unemployment is morally worse than high inflation (because it concentrates the pain on the least powerful) but politically it's the reverse, because it affects everyone.
I suspect voters don't pay too much attention to the y/y or m/m numbers but mostly gauge inflation by what they see at the gas station and the grocery store.
I'm actively trying to hire a couple of technical/engineering writers, typically MS with work experience, and it's very rare for me to get writing sample submissions as good as this.
>Food $200
>Data $150
>Rent $800
>Candles $3,600
>Utility $150
>someone who is good at the economy please help me budget this. my family is dying
so I don't know if the conclusions are sound (really just not my area at all), but the writing is very good.
Nice headline/sub headline for this article, Milan.
Thanks for referencing the New Zealand target. 2% is totally arbitrary! There's nothing magical around it. The Fed could just as easily say, "we've looked at the data and 3% (or 4%) is a more appropriate target because it gives us wiggle room on the low end of interest rates." The Great Recession should have caused a change in thinking around this, but it doesn't look like it has.
I.e., predictability is valuable.
It strikes me there is something really wrong with the CPI measure of rent if the lag is that large. Arguably it a major reason for the Feds policy mistakes - not recognizing inflation when it first started going up, and being too slow to react when it is going down.
I find it hard to believe that the smart people at the Fed are unaware of how rent inflation is calculated and its implications.
I don't think its that simple. Let's say that the price of eggs jump from $2 per dozen to $5 per dozen in a month. Then decline .50 cents a month for the next three months before stabilizing at $3.50. Should people be thrilled prices are dropped 30% or freaked out that they 175% higher than they were?
Since most people's wages change on an annual basis, they are probably going to think about that way.
I agree that most people experience inflation in terms of how it impacts their budget. I get the normie perspective inside my household on a regular basis and she definitely doesn't want to here "ackchyually" about how inflation is moderating.* This is especially true when the grocery budget is up 25% from last year and we're going to have to reallocate money from other parts of the budget to cover this. Which also suggests to me that if media came out and said that, you'd get what I hear all the time that "media is biased" or "they don't really count true inflation."
*Don't ask me how I know she doesn't want to hear it. I'm pretty smart on some things, but apparently there are others that are impossible for me to learn.
Two issues here:
1) Are average egg prices up or down this month?
Part of the problem for all this is that most of our data lags by at least a month and often a quarter - and revisions in the data are common! Add in the fact that the average journalist doesn't understand this any better most people and is trying to translate econ speak they barely comprehend into something that the average person will read/listen/watch.
2) You also have to understand that media is driven in large part by the audience. The audience doesn't want to hear that prices rose a bunch last quarter we're waiting on reports to see what's happening this quarter. They want information that suggests stuff is happening right now.
Noting that the Fed shouldn't care about the price in eggs specifically, of course, I'd also note that for people who *do* care (i.e., shoppers) they get real-time information on egg prices by driving to the grocery store. Just did that this morning. Spoiler alert: damn, egg prices are still very high.
I hear you and I think you make a good point about the media reporting a distorted number. But I think you have the causality backwards. Most of the time inflation is mild and incredibly boring. But occasionally it spikes and consumers freak out about the prices which THEN leads to media reporting on it, talking about causes, applying actual numbers to it, etc. What I don't think is happening is media reports on it and THAT causes people to freak out. And as Marc notes below, consumers generally have a set price in their head for many things and if the prices jumps above that, even if it then stabilizes, it takes time for consumers to adjust to the new equilibrium. They will continue to think inflation is high for as long as that takes.
Here's some support from Krugman for your idea:
https://twitter.com/paulkrugman/status/1616783239229603842
"I highly doubt that a college freshman (even one as intelligent, charming, and humble as myself) has a better sense of what’s going on in the macroeconomy than the experts at the Fed or professional bond traders. "
Let's be real here - economic experts almost always get projections wrong. Economics is not a predictive science, as has been shown time and again, most recently with the vast majority of them believing in the "transitory" hypothesis. There is no reason to think that your calculus and arguments are any less likely to be accurate than theirs.
My own non-expert view is that the fed should hold off on further increases and see what happens with the ones it's already done, since interest rate increase have lagging effects.
Well I haven't even taken intro macro yet so I'm inclined to err on the side of humility
Good policy. BTW, all of my arguments about "macro" are really generical equilibrium micro arguments.
The problem is that "predictions" (and to be a bit defensive, these are usually not made by "real" economists, but newspaper writers) are almost always un conditional. Was 2021 inflation going to be "temporary?" Well that depended on what the Fed was going to do. I was surprised at how un-"temporary" inflation was becasue I was surprised that the Fed did not start raising the FF rate until 6 months after the TIPS inflation expectations rate indicators rose above target.
Calvin Coolidge once said, “If you see ten troubles coming down the road, you can be sure that nine will run into the ditch before they reach you.”
The Fed’s task - not an enviable one - is seeing the one that misses the ditch.
Agree. The fact that we judge against perfection (how else can we learn?) does not mean the we expect it.
We should not expect it.
Sure, all predictions require assumptions. Whether economists are bad at the prediction part or the assumption part doesn't change the fact that their forecasts for things like inflation and recessions are not very good. The fact the the Fed seemed to think nothing was wrong and acted late is part of that problem, and I would guess that they assumed the "transitory" inflation hypothesis like most everyone else.
And I do want to make clear that I'm not trying to dump on economics as a profession, but I do think there should be a lot more humility and uncertainty when it comes to forecasting.
No, I think that is the key difference, above all the difference that consumers of predictions should make. How much a rock will hurt your toe depends on both the gravitational constant AND whether it is dropped on the toe or not.
When the Fed said inflation was temporary, did it mean that, "with nothing more from us, it will be temporary" or "we will do what it takes to make sure it is temporary." We NOW know it was the former, but we should have been told at the beginning
Sure, that's a longstanding problem but it's still relevant that the Fed was simply wrong on inflation, as were most economists.
The point is how much should we trust the forecasts of economists, especially those in key places like the Fed? And I think that answer to that is "not much." And not because I think they are bad at forecasting, or are biased in some way (athough such problems existing in any forecasting endeavor), but because macroeconomic forecasting is really hard and after decades of effort, experts are not very good at it. That tells me that a lot of macroeconomic factors are simply emergent and cannot be predicted.
The Fed is not supposed to be "forecasting" inflation." They are supposed to be controlling it. Is that did not say it was temporary in 2021, they would have been announcing a change in their target. The point is we could have supposed it to mean, "we will make sure it is temporary."
Sure, but controlling inflation requires forecasts about what the economy will do, including inflation. Members of the FOMC do submit forecasts - including on measures of inflation, which are an input to Fed decision making.
I contend that it seemed obvious *at the time* that the ARP was too big and could lead to inflation. On top of that, the PPP was largely a cash grab by businesses and anyone clever enough to claim to be a business.
I don't think I'm smarter than a bunch of professional economists, so what were they seeing that made them so hesitant?
On the ARP specifically, I think they *did* see the risk of inflation, and people said it at the time. But inflation isn’t the only thing people care about, so they were willing to take the risk because they wanted to lower the risk of a long span of high unemployment like after 2008.
This is what makes economic measures so difficult. If you have a plan, and your best estimate is that it has a 90% chance of getting unemployment below your goal but a 40% chance of causing significant inflation, is that worth it? Is it better than a plan that’s 50% / 10%? That’s a really hard question, and I think one without a right answer. You take your best shot and then sometimes bad things happen anyway, even things you knew might happen, and that’s how it goes.
Part of the problem is that we don't know how much inflation the ARP and PPP might have caused, and how much might have been caused by supply chain issues.
We had groups of people emphasizing one or the other when it came to what they predicted regarding inflation, but they didn't really know.
Dude, I seriously didn't realize Matt hadn't written this until the comment about being in college which really confused me. Very good job Milan!
Starting at 1:00 is Milan in 15-20 years.
https://youtu.be/ApEr96H2jVU
Since I just posted 3 comments critical of Matt's analysis I should still say it is HUGELY better than the drivel one will typically find in the NYT/Bloomberg/WSJ or hear from even intelligent politicians. He obviously got a lot more out of his econ classes than most people did theirs.
I don’t think Matt ever took econ classes in college.
Maybe THAT explains it! :)
Seriously, economics s just refined common sense and there is no reason that someone might not refine their common sense on their own. And a lot of classes is, unfortunately, devoted to leaning the jargon "marginal value product" instead of concepts.
I’ll spare you my own cost benefit analysis of Fed interest rate movements in the immediate future and go to:
“But let’s say it’s the middle of 2023, inflation is sitting at 3% and unemployment is at 4 or 4.5%. Is it worth raising unemployment by another point to get inflation down to 2%?”
Well, the question at that point would be, is it necessary or can we just wait and see if the rate setting trajectory up until that point might still bring it down to 2%.
I would argue that changing the target should not depend on conjunctural factors, although they might influence WHEN the change is made. Harking back to my earlier comment today about why we want any inflation AT ALL – shocks that require changes in relative prices when some prices cannot fall – it follows that the target for average inflation ought to depend on the average size and frequency of the expected shocks. Have shocks gotten larger? Was 2% optimal for the size of past shocks? I do not know, but THOSE are the questions I would want the Fed to answer for itself.
I say let's just split the difference and go for 2.5%.
I really have not much of an idea of how the idea of adjusting the FAIT target would go down. Clearly the fear is that it would be interpreted as "the Fed has given up even TRYING to control inflation." And since it looks to me like we have only had a short period of supposedly trying 2% FAIT, I don't see much reason to change it now. And I think the case for the Fed pausing FF hikes is pretty much the same right now whether we are aiming for 2 or 3% FAIT.
Hey Milan, I'm completely on board with the 3% inflation rate (no one thinks 3% average inflation is devastating and some more wiggle room in a recession is better than getting trapped at the 0 lower bound).
But I've got a question about the expectations part of inflation targeting every expert just seems to be asserting. This part seem non-scientific. Is there any social psychology research on impacts of adjusting inflation targets (or similar policy moves)? Or are the economists just going with their guts here? Maybe setting the inflation target to 3% when you're at 5% annualized inflation is actually quite bad! But maybe setting the inflation target to 3% when you've made it to 2.5% is fine? Genuinely unsure, but since you've clearly gone through the literature and talked to the right people, curious if there's anything on this.
To me the problem is the diminishing returns from interest rate hikes to go from 3% to 2%. If it were costless to do so then, fine, protect your credibility, Fed. If it takes a two percentage point jump in the unemployment rate to get that last one percentage point drop in inflation, then I'm getting off the bus.
Wage increases have not kept up with inflation. So, wasn't the inflationary stimulus a backhanded way of increasing labor demand by lowering wages?
In other words, to use a highly technical term I saw when browsing through my son's economics textbook, wages were "sticky" and it took inflation to "un-stick" real wages.
I'm a bit of a hawk just because inflation can wreak so much havoc with the economy. I strongly disagree with Sahm's quote as stated, but I am glad that at full employment more people are building skills and track records and hopefully moving up the ladder. The financial crisis in particular and the Covid crisis have really messed up a lot of people's careers, and a little bit of a hot job market will help make up for that.
Why isn’t a fiscal measure like a temporary special tax on the top quarter of income earners part of the toolkit? Too politically fraught? Or does it not target the best-off as well as I’m thinking it might?
House Republicans
My financial advisor says put off buying or repairing anything you can until the Congress manages to raise the debt ceiling. Markets will drop as the real deadline gets closer and who knows what will happen if the crazies prevail. So keep on hand as much cash as possible so you don’t have to dip into a depleted retirement fund. As this realization spreads, demand will go down. Meanwhile, I’m dropping my catalogs into the trash without reading them.