The False Inflation Problem – Joseph Stiglitz

A slight increase in the rate of inflation in the United States and Europe has sparked anxieties in the financial markets. The fear is that US President Joe Biden has overheated the economy with the $ 1.9 trillion bailout package and a series of additional spending plans for infrastructure, jobs and family support. These concerns are premature, considering the phase of uncertainty we are going through. We have never faced a pandemic-induced recession characterized by a disproportionate decline in the service sector, an increase in inequality and a surge in the savings rate. It is not even known if or when covid-19 will be contained globally. As we evaluate the risks, we must prepare for any eventuality.

The Biden administration has correctly assessed that doing too little is riskier than doing too much. Furthermore, much of the current inflationary pressure stems from short-term supply-side bottlenecks, which are inevitable when an economy is restarted. We do not lack the global capacity to build cars or microchips; the point is that when all new cars use microchips and the demand for cars stagnates due to uncertainty, the production of microchips is reduced. More generally, coordinating all production inputs in a complex global economy is a difficult task that we tend to take for granted.

Now that normal operation has been discontinued, there will be bottlenecks that will result in the prices of some products rising. But these movements will not fuel expectations of a rise in prices and generate an inflationary push, especially given the global overcapacity. In the United States, a country characterized by profound inequalities that the pandemic has exposed, a rigid labor market is just what it takes. When the demand for work is strong, lower wages rise and marginalized groups enter the market. Of course, exactly how tight the US labor market is is a matter of debate, given reports of labor shortages despite employment still well below pre-crisis levels.

Rather than panic about inflation, we should worry about what will happen to aggregate demand when the extraordinary tax breaks run out. Many poor people have accumulated debts: in some cases, more than a year of rent arrears due to the temporary freeze on evictions. Reduced spending by indebted households is unlikely to be offset by wealthier households, which accumulated savings during the pandemic. Given that spending on consumer durables has remained high over the past 16 months, the rich are likely to use this savings as they would any other unexpected gain: investing it or spending it over the years. In the absence of new public spending, the economy risks again suffering from insufficient aggregate demand.

Furthermore, even if inflationary pressures were to become really worrying, there are several tools to cool demand (and using them would strengthen the long-term outlook for the economy).

First of all, there is the interest rate policy of the Federal Reserve, the US central bank. The past decade with near-zero interest rates hasn’t been healthy. Returning to normal interest rates would be a good thing, even if the rich, the main beneficiaries of this era, would disagree. Some commentators fear that the central bank will not intervene when necessary. Instead, I think the Fed’s statements hit the spot and I hope its stance will change if and when the data changes. The instinct to fight inflation is part of the DNA of central bankers. If they don’t see it as the main problem now, then neither should we.

The second tool is the tax increase. Ensuring the health of the economy requires much more public investment, which will need to be funded. The US tax-to-GDP ratio is too low, especially in light of inequalities. More progressive taxation and more environmental taxes are needed to tackle the climate crisis. But it is understandable that the government is hesitant to introduce new taxes given the precarious economic conditions.

The current inflation debate must be taken for what it is: smoke and mirrors created by those who want to thwart the Biden administration’s attempt to address some fundamental US problems. To do this, more public spending is needed. The country is finally lucky enough to have a leadership that is unwilling to give in to alarmism.

(Translation by Fabrizio Saulini)