Inflation scare at the Federal Reserve

President Franklin Roosevelt said at his first inauguration in March 1933 that “the only thing we have to fear is fear itself … irrational and unjustified terror.” Franklin Roosevelt was speaking in the depths of the Great Depression, but what he said will be relevant in 2022 when a recession was not yet certain. The unreasonable horror today is that inflation will spiral out of control when the thing to fear is that raising interest rates could trigger dangerous deflation.

Federal Reserve Chairman Jerome Powell recently said that inflation poses a greater risk than recession, and other Fed officials agree. This is ominous because inflation has never hurt Americans as much as a dozen recessions since the country’s founding when prices have fallen instead of rising and farmers and workers have suffered badly. Unfortunately, even Democrats like Treasury Secretary Janet Yellen share Powell’s view. She was quick to “confess” a few weeks ago that inflation in mid-2022 is worse than she thought it would be, and that she was wrong to think it would decline quickly. She was clearly wrong when she predicted a quick end to price hikes, but Democrats’ defense, every administration is making rosy predictions. The most important mistake is to encourage those who think raising interest rates is a good idea and respond timidly to the Fed’s willingness to risk a recession to ease this episode of inflation.

Democrats like Yellen must disengage from the Federal Reserve and the masses that are paying high interest rates. Democrats were right to direct spending toward long-term investment in alternatives to fossil fuels. They are right to fight inflation by attacking bottlenecks in ports and transportation hubs and right to add new capacity to produce advanced computer chips and similar high-tech supplies. In fact, some of the price increases associated with these bottlenecks are already fading as are ocean freight rates, lumber prices, and stock shortages at Walmart, Target, and other outlets. Unfortunately, higher interest rates will do little to reduce the global rise in energy prices, and Russian President Vladimir Putin would like to see the Fed trigger a recession that will further discredit the United States and democratic government.

Democrats must also explain more clearly to the public how they are doing it; The previous administration and Congress took successful action to ease the pain of the COVID-19 recession. Both administrations and Congress were right to spend more than $5 trillion in government money to make up for the lost income of the 20 million Americans out of work due to COVID-19 when large parts of the economy shut down. The very interesting question that economists should be asking is: What would have happened after the crash of 1929 if President Hoover had spent government money to support income and investment the way the government did from 2020 to 2022? My view is that the world would have avoided the Great Depression if Hoover had acted so boldly.

It is also useful to see how President Trump temporarily made Republicans realize the central role that government has to play when the economy is in trouble. For all the ferocity and willful divisiveness of his politics, when it came to the COVID recession, he thought he was a developer, a borrower, a newcomer. He always took advantage of low interest rates and spending, and that’s what backed him up when COVID hit. He brought in reactionary Republicans to support stimulus spending that they would never have supported if it had been proposed by Democrats. Since President Biden’s election, Republican reactionaries are back in shape. They opposed the stimulus Biden added in early 2022 and now blame it on inflation. They also blame Biden for supporting alternative energy development, arguing that he has discouraged oil companies from drilling new wells, even though domestic oil and gas production is now increasing.

In the 1970s, the last time the oil cartel was able to raise prices, Americans adjusted, and cars, homes, and industries became much more efficient. Interest rates of 6, 7 or 8 percent instead of 2 or 3 percent would make adaptation to climate change and a post-Ukraine world less expensive. The risk is not inflation. The risk is what will happen if Americans cannot borrow to help the economy adjust. There will be less demand for carpenters, plumbers, electricians, factory workers, freight services, drivers, and warehouse personnel, wages will remain stagnant, and inequality will worsen.

Raising rates is risky. What Fed chairs like Powell and his predecessors like to call a “soft landing” is a slippery slide into a recession. If Powell and his cohorts overshoot, there will be a recession with serious economic and political consequences. This is what we should fear.

Paul A. London, Ph.D., was Senior Policy Adviser and Deputy Under Secretary of Commerce for Economics and Statistics in the 1990s, Associate Deputy Director in the Federal Energy and Energy Administration, and a Visiting Fellow at the American Enterprise Institute. A legislative aide to Senator Walter Mondale (D-Minnesota) in the 1970s, he was a diplomatic staffer in Paris and Vietnam and the author of two books, including Solving Competition: The Bipartisan Secret Behind American Prosperity (2005).