OPINION: Unlike Jerome Powell’s extraordinary monetary accommodation, Paul Volcker’s single-minded discipline in attacking a pernicious Great Inflation was simple, blunt, and direct.
NEW HAVEN, Conn. —Poor Jerome Powell. With U.S. inflation close to a 40-year high, the Federal Reserve chair knows what he needs to do. He has professed great admiration for Paul Volcker, his 1980s-era predecessor, as a role model. But, to paraphrase Sen. Lloyd Bentsen’s famous 1988 quip about his vice-presidential rival, Sen. Dan Quayle, I knew Paul Volcker very well, and Powell is no Paul Volcker.
It was long overdue. Under Volcker’s predecessor, Arthur Burns, the Fed had become convinced that inflation was part of the economy’s institutional fabric. The price level was thought to have less to do with monetary policy than with the power of labor unions, cost-of-living wage indexation, and regulatory pressures on costs stemming from environmental protection, occupational safety, and pension benefits.
The Fed increased its benchmark federal funds rate FF00, +0.00% from 10.5% in July 1979 to 17.6% in April 1980. Volcker then reversed course during an ill-advised but short-lived experiment with credit controls in the spring of 1980, before resuming a monetary-policy tightening that eventually pushed the funds rate to a monthly peak of 19.1% in June 1981. Only then did the fever of double-digit inflation break.
In 2021, there was a striking sense of déjà vu when U.S. central bankers treated the initial surge in inflation as transitory and squandered the credibility of well-anchored expectations of low inflation. Unmatched monetary accommodation Powell’s problem is all the more evident when viewed through the inflation-adjusted lens of real interest rates. Over the 51 months of his leadership of the Fed , the real federal funds rate has averaged -1.95% . This extraordinary monetary accommodation is unmatched in modern times. The real funds rate averaged -0.05% for eight years under Burns, -0.7% during Bernanke’s eight-year tenure, and -0.9% for four years under his successor, Janet Yellen.
It is delusional to believe that such a wildly accommodative policy trajectory can solve America’s worst inflation problem in a generation.
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