Photo by Alexander Grey on Unsplash

Fed must keep raising interest rates until inflation is at or below 2%

By Peter Morici

Jan. 24, 2023 – First published at washingtontimes.com)

These days an economist can’t cross the street without being asked if a recession is coming. The answer depends on how much inflation we are willing to tolerate.

On that front, the Federal Reserve has been getting good news lately.

December’s consumer price index report indicated headline and core inflation — prices with the food and energy sectors removed — are moderating, and the economy continues to add jobs.

Unfortunately, inflation spreads through the economy unevenly. Focusing on progress and setbacks over a few months can be deceptive and seduce central bankers into poor judgment.

Generous stimulus checks

In the early months of 2021, overly generous stimulus checks and working from home inspired a shift in consumer demand from services to goods, and chip shortages and global transportation logjams pushed up inflation.

By May 2021, household expectations for inflation a year forward, as tracked by the Conference Board, New York Federal Reserve and University of Michigan, averaged about 5%. And the lines crossed in the labor market — the number of job openings began exceeding the number of Americans looking for work.

Federal Reserve Chairman Jerome Powell missed all this. The Fed hewed to notions that full employment was a long way off and printing money had little consequences for inflation. It didn’t address inflation by raising interest rates until March 2022.

Macroeconomists are enamored with the idea that observing financial markets can reveal the mysteries of the universe. They look to the differences between the interest rates paid on ordinary Treasury securities and inflation-indexed Treasuries to get a fix on where inflation is going.

High inflation

Through 2021, the one-year spread never exceeded 2.7% — whereas in 2022, inflation turned out to be about 8% and closer to what surveys of consumers predicted.

We would have been better off had Mr. Powell and Treasury Secretary Janet Yellen fired their economists, been given a list of the 25 most frequently purchased goods and services at Trader Joe’s, Lowe’s and Orbitz, and gone shopping every month.

Going forward, several pressure points may still prove troublesome.

Gasoline prices have been falling because the Biden administration has drawn down the Strategic Petroleum Reserve. Demand in China has been depressed by an abrupt awakening from COVID-19, but that will reverse. And we have yet to see the full impact of Western sanctions on Russian oil exports.

Gasoline prices

We have good reason to believe that current gasoline prices are artificially depressed.

The demand for exported natural gas in Europe will grow, and that will push up U.S. heating and electricity costs.

Grain exports from Ukraine are not likely to increase, and climate change is wreaking havoc on farmers around the world.

Year-over-year U.S. farm prices were up 23% in November (latest data), and those will filter into grocery prices as we move through 2023.

The labor market remains tight. Workers jettisoned by tech giants such as Meta and Twitter are quickly finding new positions elsewhere in the tech sector and in the finance, health care and retail industries.

Job openings

Job openings exceed job-seekers by about 70%. Small businesses continue to hire, and the labor market is nowhere close to balance.

Wages are rising about 6% a year, while productivity growth will likely remain pinned at about 1%. That’s inconsistent with 2% inflation.

The shift to green energy will push up the cost of electricity and automobiles. The grid is terribly overtaxed, and utilities lack good alternatives to natural gas when cold weather slows windmills and storms dampen solar generation.

From 2013 to 2021, the cost of lithium-ion battery packs fell by about 80%, but now that trend is reversing. Engineering improvements are getting tougher to accomplish, and tight material supplies abound.

Carmakers

Carmakers plan to unveil a host of new electric vehicles in the coming months, but those will be expensive. Chip shortages will continue, and car prices will fall only to the extent the economy slows, and people can’t afford to buy.

Rents on new apartment leases are falling because new household formation has dropped. That will put downward pressure on the housing component of the CPI later this year, especially as those affect imputed rent on owner-occupied dwellings. Rents, however, will rise as the economy strengthens in 2024 and more young people establish residences.

In his more recent ruminations, Mr. Powell has tried to convince financial markets he’s not done fighting inflation, and they are not listening very well.

He would do well to keep his word, keep pushing up interest rates, even if more gradually, and then keep those elevated until inflation is at or below 2% for at least six months.

That would give us a recession. But harsh memories of the 1970s, when the Fed did not stay the course, suggest that a period of elevated unemployment is a price we must pay for profligate spending and money printing.

 

Biden is undermining Powell’s efforts to curb inflation

In most of the West, monetary policy is hitting the brakes while fiscal policy is stomping on the accelerator

By Peter Morici

Oct. 29, 2022 – First published at marketwatch.com)

Appropriating language from Paul Volcker, Federal Reserve Chairman Jerome Powell has pledged to “keep at it” and risk a recession to conquer inflation. In varying measure, central bankers in other Western industrialized countries, save Japan, are tightening monetary policy too.

Unfortunately, the excesses of national politicians will require Powell and his Fed colleagues to summon the commitment and endurance of an Olympic marathoner.

Pulling in opposite directions

Across Europe and America monetary and fiscal policies are pulling in opposite directions and poorly coordinated climate change and wartime economic policies make it all worse.

The European Union is distributing and member states are spending about $800 billion in pandemic recovery funds to underwrite investments in green energy, modernization and national competitiveness.

The EU and other continental governments are seeking to cushion the blow of higher energy prices on households, industry and small businesses with more than $300 billion in new relief spending—those somewhat resemble the pandemic relief efforts of 2020 and 2021.

Liz Truss’s short-lived conservative government in the U.K. backed down from big tax cuts. However, relief is still planned for households and businesses from high energy prices, and that’s swelling deficits too.

Deficit spending or even spending partially funded by tax increases to catch the windfall profits of energy companies is hardly what national governments should be doing when the aggregate demand exceeds what these economies can produce. And central banks are curtailing liquidity to curb consumer spending and private investment.

Speaking bluntly, the European Central Bank and Bank of England are hitting the brakes, while European political leaders are jamming the accelerator to the floor.

Peacetime economy

The Europeans with American support have chosen an economic war and materiel aid to Ukraine as their answer to Russian military aggression without taking the political steps that should accompany wars in parliamentary systems.

These include designation of wartime prime ministers, unity cabinets and as necessary rationing of life’s essentials—fuel, food and so forth—and price and wage controls to curb inflationary pressures that have fundamentally political, not economic, origins.

Popular discontent with the effects of higher energy and food prices on overall living standards are turning into extremism and rather non-Euclidean economic reasoning. How else could you explain a debt-burdened and isolated Britain even entertaining tax cuts at a time like this, Italy electing a right wing government with neo-fascist roots, and demonstrations in Eastern Europe denouncing the EU’s resistance to naked Russian aggression.

For more than a decade, escaping deflation—boosting inflation by whatever measures may be necessary—has been the policy to revive growth. but Japan’s problems are not rooted in shortages of demand.

Japan’s mistake

The Japanese unfortunately confuse causality. Although at least some inflation usually accompanies economic growth, rising prices offer no guarantee of healthy progress—just look at Latin America.

Japan’s problems stem from a virtually stagnant labor force—the product of too few births and very limited immigration. And the unfortunate fact that what the Japanese economy does best—run large complex industrial operations—poorly incubates innovation in the digital age.

For the last several decades, economic dynamism in America has been driven by startups that quickly grow to challenge established companies—Apple, Microsoft, Intel, AMD, Tesla, and the like.

America’s top universities turn out entrepreneurs in sufficient quantities to lead risk taking, whereas Japan’s educational system mints company men. The Asian analog to the 1980s IBM executive in the bland gray suit and tan raincoat.

The Bank of Japan is locked into a false paradigm by keeping interest rates low.

All that is pushing up the exchange rate for the dollar against the euro and the yen and making inflation worse in Europe and tanking the dollar value of the overseas earnings of American corporations. The latter is of no small consequence for U.S. stock prices, earnings, and funds available for R&D and new investments.

Fiscal stimulus

But President Joe Biden is dumping huge amounts of borrowed money on the U.S. economy through his infrastructure program, the CHIPS Act and most important student-loan forgiveness. The latter could cost $1 trillion before it’s all done and virtually give university presidents the power to issue Treasury debt.

If Powell has signed on for the duration of the war on inflation, he better start angling for a third term. The battle can’t easily be won without the White House pursuing a more conservative fiscal policy.

 

 

Biden’s Morning After the Election Hangover Will Be Headache for the Fed

He believes, through edict and subsidies, he can wholly transform the American energy industry

By Peter Morici

Oct. 26, 2022 – First published at washingtontimes.com)

Joe Biden fancies himself a transformational president like FDR but behaves like a throwback from big-city political machines. He is seeking to buy the midterm elections by pardoning those jailed for marijuana possession, forgiving up to $1 trillion in student loan debt and running down the Strategic Petroleum Reserve.

Dumping SPR oil on domestic markets pushed gasoline prices from $5.11 in June to $3.77 in September, but that plan was foiled somewhat by European sanctions on Russian oil and Saudi Crown Prince Mohammed bin Salman’s consorting with Russian President Vladimir Putin to curtail OPEC oil production.

Mr. Biden has depleted 36% of the SPR. If enough oil is to be kept for a security emergency like a war in the Gulf that choked global supplies, he must stop pumping petroleum from salt domes. Gas prices will then skyrocket even as the economy slides into a recession designed by the Federal Reserve to curb inflation.

Mr. Biden may cynically blame greedy oil monopolists, Mr. Putin’s war and the Saudis, but the responsibility rests squarely with him. Despite spending 26 years in the Senate and eight years as vice president, he has crafted through regulation and the Inflation Reduction Act policies that show little understanding of how U.S. energy markets work.

The United States may be the world’s largest producer and has the potential to supply all its own needs, but petroleum products are commodities whose prices are largely determined by international market conditions.

Treasury Secretary Janet Yellen’s plan

Treasury Secretary Janet Yellen’s plan to cap the price of Russian oil, which still flows to China, India and other markets in Asia, won’t work well. As the European Union denies international shipping companies access to insurance, Russia can curtail production and force non-Western customers to rely more on the real oil monopolist — Saudi Arabia through its dominance of OPEC.

Mr. Biden ambitiously seeks to generate 80% of U.S. electricity from wind solar and other renewables, reduce economy-wide carbon emissions by 50%, and boost EV sales to half of all cars sold by 2030. And as a byproduct of the new investment, resurrect American manufacturing through domestic content requirements, enable monopoly unions and promote through discriminatory set-asides the social engineering agenda of Black Lives Matter, Lean In and the rest of the culture industry that profits from the diversity and inclusion shakedown bedeviling American businesses, professional societies and schools.

Perhaps intoxicated with the success of Obamacare in socializing and sometimes monopolizing through government regulation the U.S. health care industry, the West Wing believes it can through edict and subsidies wholly transform the American energy and automobile industries. But those markets are terribly different.

Before Obamacare, the federal government directly and through state agencies was already bankrolling large shares of U.S. health care purchases through Medicare, Medicaid and military and veterans’ benefits.

Largely regulated

Whereas the U.S. electricity, petroleum and motor vehicle markets are dominated by private purchases and largely regulated by politically independent federal agencies like the Federal Energy Regulatory Commission and state and municipal governments.

Permits to build windmills and solar farms are often controlled locally and power grids are largely run and jointly regulated by states, consortiums of states and federal agencies.

The building blocks of green energy, polysilicon and lithium, are largely produced abroad and too often in China. Permitting new manufacturing and mining in the United States is controlled by the states and NIMBY activists who abuse the courts to impose lengthy delays.

Reliance on green power requires massive new power transmission lines to bring electricity from where the sun shines and the wind blows to the cities that need it. Environmental reviews and other litigation can take up to a decade, and sometimes local building permits are never released.

Green energy requires nuclear or fossil fuel backup, but regulatory preferences for solar and wind often make those too expensive to operate. Hence, blackout risks are exacerbated in Texas, California and elsewhere, and that uncertainty will spread throughout the nation as the transition to renewable energy continues.

Pushing Americans into EVs

Mr. Biden is pushing Americans into EVs and away from fossil fuels generally by limiting pipeline development and leasing for oil and gas drilling and discouraging financing for private projects. Taking the cue, five U.S. refineries have recently shut down.

His hasty and botched withdrawal from Afghanistan and calling out MBS for the murder of Jamal Khashoggi encouraged Mr. Putin to believe that Western opposition to an invasion of Ukraine would prove fleeting. And for MBS to consort with Mr. Putin to cut OPEC production rather than lend a sympathetic ear to the president’s requests to keep the oil flowing.

All of this will make the job of the Federal Reserve in curbing inflation more difficult, but the price of gas can only go down if the president dangerously depletes the SPR or the Fed imposes tortuously slow growth or a permanent recession.

 

Why Biden’s Inflation Is Seemingly Uncontrollable

A Disconnect Between What the Economy Can Deliver and Poorly Executed Policies

By Peter Morici

Aug. 16, 2022 – First published at washingtontimes.com)

The Federal Reserve and the Biden administration are in a treacherous period. Even if the jobs market ultimately cools, inflation will remain volatile owing to fundamental disconnects between worker expectations and what the economy can deliver and poorly executed federal policies.

During the pandemic, many households experienced a surge in income thanks to large government transfers — household stimulus payments, enhanced unemployment benefits and assistance to privately owned small businesses — even when many folks were not working and businesses were shuttered.

Notably, 68% of those receiving unemployment benefits enjoyed higher incomes than they did while previously employed.

Until January 2021, inflation remained low, and for many months after that, consumers failed to anticipate the historic price increases that they would eventually endure.

Americans amassed about $2.5 trillion in extra savings, and they felt richer than the economy could support them on a long-term basis.

Now workers are reluctant to let go of this false prosperity.

What they expect to earn

The economy cannot produce what they expect to earn, but unions are digging in, workers are organizing at Starbucks, Amazon and Trader Joe’s, and businesses continue to complain about worker shortages. In part, the depressed level of adult participation in the workforce reflects an inflated sense of self-worth.

Many folks would rather stay at home and run through savings than work for wages they consider inadequate.

Workers lucky enough to enjoy high demand for their services during the pandemic, such as in the technology sectors, got used to job hopping and setting their own terms — working not just from home but at long distances that make even the occasional face-to-face meetings expensive.

Recipe for a wage-price spiral

That’s a recipe for a wage-price spiral and inflationary expectations the Fed can’t harness by raising interest rates a few percentage points. Even at current levels, real interest rates are still deep in negative territory.

Workers will be chasing their tails — demanding and getting higher wages but with businesses aggressively raising prices even more. Both businesses and households are often able to borrow at rates much lower than inflation.

Federal Reserve Chair Jerome Powell is very concerned about consumer sentiment, as tracked, for example, by the University of Michigan. It’s down, and, not surprisingly, pessimism about future household finances is an important culprit.

Alarming pace of overall inflation

As consumers see an alarming pace of overall inflation, it becomes reasonable to pay prices for cars that pad manufacturers’ profits even as more vehicles become available this fall and winter. If households hold on to cash, they can expect to face even higher MSRPs later in 2023 and 2024.

Too much money will continue to chase too few goods for a long time.

On the supply-side, White House oil and gas prices and green energy policies are classic examples of the right hand not knowing what the left hand is doing.

President Biden is pulling out all the stops to encourage more green energy — windmills and solar panels — and to boost U.S. production of solar panels and other relevant machinery to foster greater energy security.

Egregious false advertising

The Inflation Reduction Act of 2022, penned by Sens. Chuck Schumer and Joe Manchin, doubles down on green policies. It contains more good than bad, but to say it will fight inflation is egregious false advertising. EVs are already scarce, and further subsidizing purchases will only serve to further exacerbate shortages, boost dealer prices and add to the cauldron of inflationary pressures from workers’ outsized expectations.

The same goes for extending pandemic subsidies for the purchase of health insurance. Those will encourage your local hospital to overcharge you even more for long wait times and terrible service at emergency rooms.

Mr. Biden’s policies have so far curtailed petroleum production and refined faster than EVs and heat pumps can come online to reduce demand for fossil fuels.

During both world wars, the federal government famously rationed foodstuffs and, during the second conflict, gasoline, shoes and other everyday items.

World War-scale stress

Due to sanctions on Russia and Moscow’s capacity to dramatically reduce Europe’s natural gas supplies and control Ukrainian Black Sea exports of grain and oil seeds, the global economy is experiencing World War-scale stress on supply chains for agricultural commodities, fertilizer, gasoline, heating fuels and petroleum feedstock for all manner of chemicals, plastics and everyday items.

Aside from a coordinated cutback in EU natural gas use, no one is suggesting sweeping wartime rationing to relieve price pressures. So, wartime shortages show up in staggering inflation, in rents, in missing items at grocery stores and at the gas pump.

Consumer product companies are aggressively raising prices — they are even willing to bear losses in market shares to lock in higher prices to support profits.

If all that constitutes a national policy to fight inflation, then you can look for me to be the next prime minister of Italy.

 

 

Photo by Claire Anderson on Unsplash

Supreme Court Is Putting America Back on Track

Returning to first principles the Constitution was designed to support

By Peter Morici

July 12, 2022 – First published at washingtontimes.com

The hard left has gone hysterical about recent Supreme Court rulings. Like former President Donald Trump and Stacey Abrams, it can’t bear losing.

In Dobbs v. Jackson Women’s Health Organization, the court extricated itself — at least for now — from making abortion policy by tossing Roe v. Wade.

The court curtailed the arrogation of congressional lawmaking authority by executive branch agencies in West Virginia v. EPA. It effectively told the federal agency it can’t use a vague provision of an old statute to write sweeping regulations for a new problem — in this case, force utilities to retrofit or junk old coal and gas-fired plants to promote green energy — without Congress passing a new law.

Other decisions will force state and local governments to have more compelling purposes and surgically-targeted remedies when infringing on constitutional rights.

Engage in private prayer

In Kennedy v. Bremerton and Carson v. Makin, the court effectively derailed the anti-religion public education establishment by saying it’s OK for teachers and students to engage in private prayer, and states can’t discriminate against church-sponsored schools if they give assistance to private schools generally.

In New York State Rifle & Pistol Association v. Bruen it said the right to keep and bear arms is just that — what good is a gun if you can’t carry it to protect yourself in a place like Chicago?

New York and Connecticut have some of the toughest gun laws in the country, but those did not prevent mass shootings in Buffalo and Sandy Hook.

Progressives are reacting like spoiled royals whose divine right has been expropriated by a violent mob. The fact is progressives have grown accustomed to using the courts to circumvent the legislative process — and the consent of the governed — to violate constitutional rights on abortion and gender issues, racial preferences, gun rights, climate change and broader economic regulation.

On abortion, research shows women denied abortions are less likely to finish school and enjoy financial success. That would be compelling if this were the 1960s, but nowadays contraception is easily accessed.

Pro-choice movement

The pro-choice movement will develop effective machinery to help women travel from conservative states to more promiscuous jurisdictions.

Dobbs won’t much change the incidence of abortions. It will require state legislatures or Congress to speak on the issue and weigh competing perspectives on what should be legal as a fetus emerges into a human being.

What hyperventilating progressives demonstrating outside the Supreme Court refuse to acknowledge is that consistently for five decades about 50% of registered voters have said abortion should be legal only under certain circumstances.

The mainstream media would like you to think similar mobs around the country represent a majority when in fact they don’t even represent a plurality of public opinion.

First principles

The court’s conservative majority is not leading a mad charge to reactionary values, but rather taking the country back to first principles that the Constitution was designed to support — private property rights, free and competitive markets, and limited government essential to personal liberty.

This does not mean blind trust in self-interest, business and unfretted capitalism — or that constitutionally guaranteed rights are absolute — but it does require that when governments encroach on our liberty they do so with a compelling purpose, minimum intrusion and reasonable prospects their actions will accomplish their objectives. And when competing values and moral judgments are at play, legislators accountable to the people write the rules, not jurists with lifetime appointments.

The Supreme Court does not need to subvert the Constitution to guarantee women’s freedoms. They are the majority of voters, and no state legislature or Congress could get away with banning birth control — the true foundation of women’s reproductive rights.

In all the histrionics about recent decisions, the left forgot to mention that the Supreme Court affirmed President Biden’s decision to end returning asylum seekers to Mexico while they await a hearing. Mexico’s cooperation is necessary, and the Constitution assigns foreign policy to the president.

Conservatives are very disappointed, but they must take their lumps too.

Executive bureaucrats meddling

The most consequential recent ruling was West Virginia v. EPA, not Dobbs. Too much failure in the U.S. economy emanates from executive bureaucrats meddling without legitimate authority or reasoned purpose.

Americans generally recognize the electrical grid must go green and the automobile go electric. Utilities and automakers are moving as fast as they can, and it’s simply foolish to mandate conversion and retirement of polluting plants, strip oil companies of leases for drilling, boost severance taxes and force the mothballing of refineries.

Those accomplish few real benefits on CO2 emissions but impose substantially higher gas prices and inflation throughout the economy.

All the Supreme Court is doing is forcing the major players in the drama called America to stick to their assigned rolls, stay in lane and let the American people build a better society through their imagination, enterprise and reasoned choices.

 

Peter Morici is an economist and emeritus business professor at the University of Maryland, and a national columnist.

Image courtesy of userpublicdomainpictures at pixabay

Stagflation Will Be Biden’s Legacy

By Peter Morici

June 7, 2022 – First published at Washington Times)

My inbox is stuffed with articles about the prospects for stagflation, but slow growth and runaway prices are descending on America right now.

Sooner or later, dumb policies catch up with a society. Wars, natural disasters and pandemics often instigate the reckoning — just ask the crack logicians marshaling the Russian army.

The West is smack in the middle of such a calamity too.

As this column has argued, short of a punishing recession Americans will be lucky to see inflation at 4%, never mind the Federal Reserve’s official target of 2%.

Broken supply chains 

The war in Ukraine and sanctions have broken supply chains. Along with Climate Change induced heat, drought in some places and excessive rain in others, this is driving up food prices.

Land use planning is predominantly state-driven, and in the American West, it mostly promotes new industry and urbanization at the expense of agriculture. The national interest in sustaining an affordable food supply and exports to a hungry world be damned.

If the Biden administration is aware and prepared to mitigate, I am at a loss for evidence.

In Ukraine, the Russians have longer-range artillery, air superiority and the capacity to bomb Ukrainian cities into oblivion, but President Biden won’t give Kyiv the missiles and intelligence to target critical infrastructure and leaders inside Russia for fear of escalation.

Dicey business

Nuclear and chemical weapons are a dicey business and could backfire — Russian President Vladimir Putin would achieve a shock effect but no lasting advantages, as we could destroy the Russian fleet in retaliation. But shortages of Ukrainian wheat, sunflower oil and corn, as well as Russian fertilizer, threaten to break fragile food import dependence in the Middle East and Africa and turn sanctions on their head.

By blockading Ukrainian ports, Mr. Putin is driving up global food prices and imposing more costs on the West than the West imposes on Russia.

All of this will take massive amounts of capital to just mitigate that could otherwise be better spent on R&D, infrastructure and other productive investments.

COVID-19 and the war are slicing U.S. and European growth by about 1.5 percentage points — that’s well more than half the pre-pandemic pace.

Underarming the Ukrainian army

Yes, Virginia, underarming the Ukrainian army is inflationary and also stifles growth.

Chicken is expensive because COVID-19 and working from home have driven up demand. Swine flu is pushing Asian consumers from pork to poultry, and avian flu has cut chicken flocks. Yet, Mr. Biden demonizes as monopolies the four large American meat processors.

Before investing in more chickens and processing facilities, these firms must worry about the Justice Department coming for them. That won’t bring down prices, but it will sure slow growth.

These kinds of mistakes repeat in other sectors.

Permanent student debt relief

Mr. Biden is weighing permanent student debt relief but not reforming universities whose tuition has rocketed on the jet engines of the federal student loan program. Universities will continue to waste capital by preparing students for jobs that don’t exist — or not teaching them to think at all.

Mr. Biden’s ballyhooed infrastructure plan so favors the union and social justice movements, much of the $550 billion in new money will be wasted. Amtrak will continue to move too slowly, highway congestion will grow, and American businesses will be saddled with more delays.

Progressive policing policies that beget unsafe cities are keeping people from returning to offices. If those are still occupied a few days a week, not much capital will be saved to pay for additional computers, printers and home offices in the suburbs.

Slower growth courtesy of the AFL-CIO and Black Lives Matter.

Starving the petroleum industry

Starving the petroleum industry for leases will continue to raise oil and gas prices and smother demand for other goods, especially among the nearly half of households with incomes less than $75,000. Already they are fleeing Walmart and Target for dollar stores.

A handful of large money managers like Blackrock, State Street and Vanguard — aided by the radical environmental movement — are forcing incoherent, growth-killing environmental, social and governance standards on American industry.

Exxon, Shell and the like are peopled by petroleum and mechanical engineers of various sorts. They know about as much about solar technology as the Yale Law School does about nuclear physics.

 

Peter Morici is an economist and emeritus business professor at the University of Maryland, and a national columnist.

 

Image courtesy of Geralt at Pixabay

High Inflation Becoming Permanent

Americans Should Gird for a Long, Tough Battle with Inflation

By Peter Morici

May 25, 2022 – First published at washingtontimes.com)

Americans should gird for a long, tough battle with inflation.

Paul Volcker is fondly remembered as the Federal Reserve chair who slew double-digit inflation in the early 1980s. Often forgotten is that for 10 years, through prosperity and recession, the annual rate of increase in the consumer price index averaged about 4%.

For the decade between the Global Financial Crisis and COVID-19, the pace was a bit less than 2%. But that was a historic anomaly driven by more-intense globalization, the buildout of Chinese manufacturing and competition forcing businesses to minimize costs through economies of scale and wage arbitrage.

Problems with over-optimization have been laid bare by the semiconductor industry. Fires in two factories — in Japan and Germany — would have caused a global chip shortage even without a pandemic.

Shortfalls in production

China’s mishandling of COVID-19 is causing shortfalls in production from low-tech manufacturers in Vietnam who rely on components from the Middle Kingdom to behemoths like Apple and Toyota.

The Shanghai COVID-19 lockdown makes apparent the vulnerabilities inherent in the heavy reliance of supply chains on China, but it did not create them.

More pandemics are almost certain, and it’s clear we have over-globalized — at least as it concerns dependence on a Communist Party dictatorship that is paranoid about western influence.

Sinopharm is an inferior vaccine, but it will be a rainy day in hell before Beijing puts the health of its citizens first and asks the West for large quantities of Pfizer and Moderna vaccines. And it would rather cast its population into isolationist purgatory than admit to the folly of its Shanghai policy.

Treasury Secretary Janet Yellen calls the great globalization rethink friend shoring.

Diversify sources

Apparel retailers like GAP buy more from Central America. The U.S. government seeks to diversify sources of lithium, rare earth minerals, medical supplies, semiconductors and several other products away from China and Taiwan.

All of this will make America more secure, but is terribly costly and will stoke inflation.

Climate change is raising temperatures and causing droughts and floods in the western United States and around the globe. These cause shortages of affordable grains, vegetables, dairy and cooking oils.

The disruptions caused by the Russian invasion of Ukraine, sanctions, and resulting export embargoes in India for wheat and Indonesia for palm oil heightened the adverse consequences of rising global temperatures but hardly created them.

NATO’s policy of avoiding direct confrontation with Russian and limiting weapons and intelligence supplied Ukraine prolongs the war — perhaps to a stalemate — making crisis prices in petroleum and food markets increasingly permanent.

Biden policies

The private sector is moving out of fossil fuels as quickly as emerging battery technology and scarce and vulnerable supplies of lithium and other critical materials will permit. However, Biden administration policies that limit U.S. petroleum producers’ access to leases needlessly raise gasoline and natural gas prices and stoke inflation.

A more sensible approach would encourage solar and wind power, and electrification of transportation and buildings while still enabling U.S. oil and gas supplies.

Saudi Arabian Crown Prince Mohammed bin Salman and Russian President Vladimir Putin are both ruthless autocrats. U.S. energy policies senselessly make difficult and more expensive diversification of European and American sourcing away from Russia, Saudi Arabia and other unfriendly states.

President Biden’s refusal to engage the U.K. and EU in genuine free trade negotiations and reenter the Trans-Pacific Partnership weakens our staunchest and most effective allies. It drives Asian nations to question the durability of the U.S. commitment to counter Chinese expansionism and limits commerce and supply chain investments that would optimize friend shoring.

Restrictive zoning

Domestically, higher interest rates may slow but will hardly break the secular rise in housing prices and rents. It is driven too much by restrictive zoning for land close to cities, work-from-home and the resulting demand for more residential space, and the crime wave begotten by defunding the police and prosecutors who won’t indict looters and even violent criminals.

Yes, Virginia, soft on crime is inflationary.

The pandemic inspired U.S. and European governments to overspend and print too much money. Witness the nearly $3 trillion in additional post-pandemic bank deposits and cash held by U.S. households and nonprofits that keep consumers spending even as interest rates rise.

Rearming the West to counter Chinese and Russian expansionism must be paid for by higher taxes, less spending on social programs or bigger budget deficits enabled by central banks printing more money.

More inflation

My bet is on more money, more demand and more inflation.

But our Federal Reserve chair tells us the money supply does not matter. He’s aiming for a soft landing when 11 of the 14 tightening cycles since World War II were followed by recessions. His words don’t inspire confidence.

We are likely looking at 4% rather than 2% inflation over the next decade.

 

Peter Morici is an economist and emeritus business professor at the University of Maryland, and a national columnist.

 

Photo by nick olson on Unsplash

America’s national interests require tolerating some bad actors around the world

But we can choose the devil with whom we deal

By Peter Morici

April 13, 2022 – First published at washingtontimes.com)

The loadstar of American foreign policy should be the security of our citizens and assets abroad, national prosperity and the promotion of human rights.

This requires accepting tradeoffs, domestic policies that minimize vulnerabilities and acknowledging we can’t antagonize every autocrat on the planet.

The West is celebrating a reinvigorated NATO and stiffened resolve among Pacific allies, but the American posture remains timid and defensive.

The conflict in Ukraine is morphing into a war of attrition that Kyiv is challenged to win.

Porous sanctions

Western sanctions are porous, and Russian President Vladimir Putin won’t yield. Renault is resuming production in Russia, Pepsi is supplying Lay’s potato chips, cheese and other “essentials.” Moscow’s central bank can work through the 20% of Russian banking still free to do business in the dollar.

Mr. Putin’s domestic approval rating has climbed to 83%. If Russian citizens can acquiesce to the execution of Ukrainian children, we are morally rudderless to enable their access to daily necessities.

By denying Ukrainians fighter jets and other air defense systems necessary to defend the sky and offensive weapons to take the war to the Russians, we invite a false peace. Mr. Putin slices off Donetsk and Luhansk, we de facto acknowledge Russia’s annexation of the Crimea, and Moscow plants operatives further east to subvert Ukrainian authority.

If confronting Mr. Putin provokes a Russian engagement with NATO forces, President Biden should make plain that the U.S. Navy would sink Russia’s fleet, seize its commercial ships at sea and blockade its ports.

Otherwise, Mr. Putin will learn from his mistakes, rebuild his military and improve its logistics and ultimately take aim at Sweden, Finland or the Balkans.

Sharp sword

Diplomacy is always the first option, but when dealing with terrorists like Mr. Putin, a sharp sword lends authenticity to all the flowery prose.

The West isn’t disengaging from China — foreign investment and trade are booming, and its technological progress and modernization continue apace — and the American military in the Pacific needs restructuring to deter China from taking Taiwan.

Taiwan’s defense can be hardened with American anti-ship missiles, advanced sea mining technologies, anti-aircraft systems and improvements in its army’s readiness.

Former Under Secretary of Defense Michele Flournoy has written persuasively that U.S. naval and air readiness in the Pacific should create a credible threat to “sink all of China’s military vessels, submarines, and merchant ships in the South China Sea within 72 hours.”

President Xi Jinping

Then Chinese President Xi Jinping might think twice about crossing the straits to win a place in the pantheon of Chinese heroes.

Unfortunately, the world is not conveniently divided between spheres of democratic states — NATO and Japan, Australia and a few other allies in the Pacific — and belligerent autocracies — Russia, China, North Korea, Saudi Arabia, Iran and several others.

Too much of the world’s oil is locked up in belligerent states and in a nether space — Iraq, Kuwait, Nigeria, Indonesia and others — between democracy and its adversaries. We must cultivate the nonaligned, choose among lesser evils among the belligerents and get out of oil as fast as we can.

Mr. Biden’s greatest sin against facts and reason has been to work tirelessly to stifle the U.S. oil and gas industry.

Drilling here and supplying Europe doesn’t have to slow Mr. Biden’s goals for electrifying the American road and a low carbon economy. It does mean we won’t have to foolishly remove the Islamic Revolutionary Guard from the U.S. list of terrorist organizations to get a nuclear deal and oil from Iran.

Choose the devil

We can’t escape the fact that we could drill full out in the United States, and the West would still need Middle Eastern oil and gas — especially with Russia handicapped from participation. But we can choose the devil with whom we deal.

The region is irrevocably divided between Sunni Muslims led by Saudi Arabia and Shiite Muslims led by Iran. And freed of sanctions, Iran would become a greatly enhanced terrorist state, an economic powerhouse beyond oil and with twice the population, a many times greater menace than Saudi Arabia.

China is buying 1.8 million barrels a day of Saudi oil but we supply the Patriot missiles the kingdom needs to defend against Iranian-supported Houthis attacks and have the technology it seeks to diversify its economy.

We can’t oppose the Saudi war with Iranian supported fractions in Yemen and vehemently criticize Mohammed bin Salam’s domestic policies, and then ask him to pump more oil, nudge him to treat dissenters and women better, and join with us in the Abraham Accords to build a more peaceable region and credible answer to Iranian aggression.

Adults recognize there are lots of bad actors in the world. Americans must get tougher with the worst of them and tolerate those least threatening to best serve our national interests.

 

Peter Morici is an economist and emeritus business professor at the University of Maryland, and a national columnist.

Image courtesy of hosny_salah at pixabay.com

The six tragic errors the U.S. made that permitted Russia’s war on Ukraine

The U.S. and its Western allies appeased Russia and China, weakened their defenses, and summoned aggression in Eastern Europe and the South China Sea

By Peter Morici

March 24, 2022 – First published at marketwatch.com)

History will mark the Russian invasion of Ukraine as a devastating attack on the peaceful community of democracies. And that America and its allies—so inured with a sense of moral and systemic supremacy—committed six strategic errors that summoned aggression and ultimately let an invasion degrade into a humanitarian tragedy.

Economic appeasement

First, at the end of the Cold War, America and its allies opened the Western market economy through the World Trade Organization and other mechanisms to Russia and China following the thesis that participation in free markets would instigate democratic reforms.

Instead, Russia and China transformed socialism into forms of crony- and state-capitalism that empowered ruthless, autocratic regimes.

Russian President Vladimir Putin maintains his military machine and internal repression apparatus with revenues from oil, gas and other commodity sales to the West. Chinese President Xi Jinping can rule without elections by delivering export-driven prosperity and imposing an Orwellian system of behavioral control.

Military appeasement

Second, the West appeased Russia when it invaded Georgia and the Crimea and, after establishing a nascent democracy, the United States abandoned Afghanistan to the mercies of the Taliban.

Third, appeasing Russia by limiting NATO forces and positioning only defensive weapons in the Baltic states, Poland and southeastern Europe. Putin still created a fable about NATO’s aggressive intensions, appealed to Russian cynicism, and invaded Ukraine.

Now, absent NATO kinetic intervention—specifically, an allied-enforced no-fly zone—or providing the Ukrainian government with jet fighters, Putin won’t leave Ukraine empty-handed.

Fourth, appeasing Russia by not equipping Ukraine with offensive weapons. Moments after crossing its frontier, if Ukrainian President Volodymyr Zelensky could have rained missiles on approaching Russian forces and hit several strategic targets inside Russia, then Putin’s adventurism would have looked much less appealing to his military and countrymen.

Energy dependence

Fifth, American and European energy policies are fundamentally flawed. Fossil fuels will remain necessary for years, because wind and solar power can only be built out as fast as new battery technology falls in price.

Russian energy leverage over Europe is potentially very short term. Europe has adequate LNG terminals to import much of the gas it needs and could build capacity within three years to eliminate Russian natural-gas imports.

Sixth, American troops in Germany and the still modest NATO contingents stationed in states bordering Russia remain an inadequate deterrent, and U.S. forces have grown terribly vulnerable.

At his Feb. 24 press conference, President Joe Biden was asked what Putin meant when he referenced his nuclear weapons in his speech justifying seizing Ukraine. Biden said “I have no idea.”

Missed was that Putin also brandished “several cutting-edge weapons” that could defeat any adversary. Russia and China possess hypersonic missiles and antisatellite and cyber weapons that could crack an American warship in two, disable the navigation systems of the U.S. fleet and wreak havoc on the American power grid.

The United States spends $768 billion on defense—Russia $154 billion and China less than $250 billion. I doubt Defense Secretary Secretary Lloyd Austin could adequately explain why U.S. forces lack comparable weapons.

Strategic failures

Like other top-level Biden appointees, he’s good at forming task forces, producing vapid reports and satisfying the diversity and inclusion requirements of progressives in Congress and the bureaucratic interests of his departmental employees.

However, the Pentagon’s November Global Posture Review failed to offer an adequate strategy to reconfigure and modernize American forces in the Pacific to the China challenge and missed Ukraine badly.

How long would it take for American isolationists on the hard left and right to win the argument to let Russia have the Baltic states or Poland if Putin made the lights flicker and paused transit systems during a Manhattan rush hour or smashed an abandoned Midwestern factory with a missile.

Before jumping in patriotic fervor consider how much support Europeans could offer. Germany, the continent’s largest NATO member, can hardly muster an army.

For the moment, the political climate in Europe has moved in favor of beefing up NATO defenses and finding alternatives to Russian natural gas.

However, effective deterrence and hardening of economic resilience will require substantial new spending when Germany and the broader continent are grappling with the huge costs of modernizing their aging industrial base.

It’s going to take firm diplomacy to ensure the Europeans muscle up enough, but the endurance of continental resolve ultimately may prove wanting. And the Biden administration lacks the political will to stare down the green lobby and encourage U.S. shale producers to manufacture and export the additional LNG that Europe needs.

Presidents Putin and Xi can accomplish at lot more mischief before Inauguration Day 2025.

 

Peter Morici is an economist and emeritus business professor at the University of Maryland, and a national columnist.