Fed Chair Finally Fesses Up on Lingering Inflation

The October Consumer Price Index number was a stunning .9%. That means prices have increased 6.2% in the last twelve months. The behavior of the Federal Reserve (Fed), Congress and the Biden Administration is shockingly irresponsible. Action must be taken immediately. Failure to do so could lead to runaway inflation.

Four decades ago, the Fed realized that the growth in the money supply has a direct effect on the inflation rate. Since then, Fed policy of controlling the money supply growth has generally kept inflation under 3%. Now the Fed has stopped that policy. Instead, they say that based on experiences coming out of the 2008/2009 recession, inflation is not related to money supply growth. This is true, they say when the economy is operating at less than full capacity.

This Modern Monetary Theory is simply not correct. In 2010, portions of the Dodd Frank bill put severe restrictions on bank lending. That significantly lowered the multiplying effect of initial increases in the money supply which, in turn, relieved the inflationary pressure.

The portions of the Dodd Frank bill that affect bank lending, were repealed in 2018. That means the experience from 2010 was an anomaly and will not be repeated.

In March, the Fed should have begun the bond tapering program. The current plan will take eight month to eliminate the entire $120 billion dollar per month bond buying program. Had they begun the tapering in March, the bond purchasing would have ended by now.

They should also have gradually raised interest rates starting in March. Those actions would have taken enough demand out of the economy to reduce inflation, but not enough to slow economic growth.

Growth did slow in the third quarter to 2% annual rate. That was mostly due to the flair up in Covid cases. Thanks mostly to government handouts, consumers have plenty of cash to spend and are doing so as the economy fully re-opens which should lead to a higher growth rate in the fourth quarter.

Last March, the unemployment rate had been falling. Many economists forecast that the rate would fall to a full-employment level under 5% before year end. That meant no more expansionary monetary policy was needed.

Yet for the past eight months, the Fed has been electronically printing $120 billion monthly as they continue to purchase government bonds. They also have, shockingly, kept interest rates near zero. That creates a lot of excess demand. That leads to higher inflation.

No more fiscal stimulation is needed.

In the last two fiscal years, the federal government has spent nearly $6 trillion more than they received in tax revenue. On a $22 trillion economy that creates pure excess demand. That leads to higher inflation.

Congress must stop spending any more new money. Passing more spending bills will lead to more excess demand and more inflation.

Additionally, the Biden Administration must take action to increase the supply of domestically produced energy. Because Biden wants the Americans to stop using fossil fuels and use renewables instead, he has declared war on fossil fuels.

Biden believes that the reason Americans are not using renewable energy now is because fossil fuels are much less expensive. So he restricts the supply of fossil fuels by canceling the Keystone XL pipeline, halting drilling on federal lands and stopping the drilling off of the Alaska coast. The result of restricted supply when demand is increasing due to the recovering economy results in skyrocketing prices.

Higher energy prices mean that not only will consumers pay more for gasoline and heating oil, but manufacturers will pay more for energy. Retailers will also pay more because their products arrive mostly by truck.

Biden should at least temporarily reverse his energy policies because higher energy prices lead to higher overall inflation.

Biden’s policies have also encouraged many mostly lower-wage workers to stay out of the labor market. Today there are more than 3 million workers who have left the workforce during the pandemic and are not returning. Businesses had to raise wages to entice them to come back to work. This causes wage inflation which leads to higher prices.

Right now, government policy is causing the inflation we are experiencing today. The Fed should immediately end its expansionary policy. Congress must stop spending any more money. Biden must reverse his energy policy and he must stop encouraging workers to stay unemployed.

Failure to do so immediately will lead to much higher future inflation.