With inflation squeezing Americans’ finances, former Secretary of the Treasury Larry Summer has qualms about the way the Federal Reserve is fighting rising costs.
A highly-visible economics professor and president emeritus of Harvard University, Summer recently took to Twitter and the media to critique the national strategy.
Prices have risen by 6.4 percent from last year, marking the worst inflation since 1982. To combat the issue, federal officials, including Federal Reserve Chair Jerome Powell, last month raised the benchmark short-term interest rate by a quarter point and has signaled potentially as many as seven rate hikes this year.
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But this method, Summers writes, “is likely to lead to stagflation, with . . . unemployment and inflation both averaging over 5 percent over the next few years — and ultimately to a major recession.”
Summers has been pessimistic about rising prices for quite some time. In fact, he was among the first prominent figures to warn about this surge of inflation, which he characterized in an interview with the New York Times as “strong enough to break even longstanding traditions.”
Here’s why.
The Federal Reserve long touted the idea that pandemic-era inflation could be transitory, or short-lived. They moved off that talking point in late 2021, when Powell said that “factors pushing inflation upward will linger”
Now, Summers said in another New York Times interview with Ezra Klein, that the Fed is predicting that prices will go down without raising unemployment. (Jobless claims currently hover at more than 50-year lows.) And historically, it doesn’t work out that way.
The Reserve is betting that “the unemployment rate is going to fall to 3 and a half percent, remain at 3 and a half percent for three years, and that while that’s happening inflation is going to fall from its current north of 6 percent level to the neighborhood of 2 percent,” Summers said. “And nothing like that has ever happened in the last, roughly, 60 years.”
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He goes far enough to say that this forecast is “rosy scenario economics.”
Instead, Summers argues — on Twitter and in a Washington Post op-ed Tuesday — that the supply chain disruptions will likely continue, considering the effects of the “Ukraine war, Covid-19 closures in China and rising worker restiveness.” He continues: Workers with money to spend will only lead to more demand, thereby contributing to inflation.
Optimists have their macroeconomics wrong. True, more job seekers might restrain wages. But more workers earning & spending raise demand & prices. Only if they add slack to the labor market — raising unemployment — will extra labor-force participants reduce inflationary pressure.
— Lawrence H. Summers (@LHSummers) April 5, 2022
“Only if [the Federal Reserve adds] slack to the labor market — raising unemployment — will extra labor-force participants reduce inflationary pressure,” he wrote.
So what’s the solution?
Summers proposes that the Fed should renounce “its 2020 policy framework.” Keep in mind: Before March, the agency has not raised interest rates since 2018.
Instead, Summers adds, they should raise interest rates faster and higher, and even consider half-percentage points bumps.
It could benefit not only the American people, but also Democrats in Washington, said Summers, who served as Treasury Secretary for President Bill Clinton and led the National Economic Council under President Barack Obama. Inflation already poses a challenge for President Joe Biden and the Democrats in office. Failing to address the issue adequately could hurt their political standing in this fall’s elections, and perhaps beyond.
“Progressives should consider not just recent public opinion polls,” he wrote in the Post, “but the reality that inflation, and a related sense that things were out of control, did much to elect Richard M. Nixon, Ronald Reagan, and Margaret Thatcher.”
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Diti Kohli can be reached at diti.kohli@globe.com.Follow her on Twitter @ditikohli_.