Why You Shouldn’t Be Worried About “Stagflation”

The U.S. isn’t headed for the kind of “stagflation” that developed in the 1970s, when unemployment and inflation rose in tandem, Federal Reserve Vice Chair Richard Clarida said.

“I actually lived through, as a college student, the ‘Great Stagflation’ of the ’70s, and I think there are a lot of differences,” Clarida said Tuesday while answering questions after a virtual speech at the 2021 Institute of International Finance Annual Membership Meeting. “First and foremost, the 1970s were a decade of pretty substantial policy mistakes, in monetary policy. And I think central bankers learned their lesson, and I would not see a repeat of those policy mistakes.”

U.S. inflation, as measured by the Fed’s preferred gauge, was 4.3 percent in the 12 months through August, well above the central bank’s 2 percent target.

“My baseline case is not for stagflation over the medium-run horizon. It sort of has a flavor of that right now,” he said. “In the U.S., because of the bottlenecks, most folks are tracking a pretty modest increase in aggregate demand in the third quarter, with higher prices. But I don’t think that’s going to be the trend going forward.”

In his pre-Q&A speech, Clarida—a Republican who was appointed to a four-year term at the Fed by President Donald Trump in 2018—presented an upbeat view of the economic outlook, arguing that the conditions required to begin tapering the U.S. central bank’s bond-buying program have “all but been met” amid relatively high inflation and ongoing rehiring in the job market.

“I myself believe that the ‘substantial further progress’ standard has more than been met with regard to our price-stability mandate and has all but been met with regard to our employment mandate,” he said, referring to guidance the U.S. central bank issued last December pledging to continue buying Treasuries and mortgage-backed securities at a pace of $120 billion per month until the economy had made “substantial further progress” toward its employment and inflation goals.

At the conclusion of their most recent policy meeting last month, Fed officials said tapering “may soon be warranted,” and Chair Jerome Powell clarified in a press conference afterward that a vote to reduce the pace of purchases could come as soon as their next meeting in November.

Inflation Expectations

Regarding higher inflation, Fed officials including Powell have chalked up the elevated price pressures to supply-chain bottlenecks and other transitory developments tied to the reopening of the economy as the pandemic recedes.

“I continue to believe that the underlying rate of inflation in the U.S. economy is hovering close to our 2 percent longer-run objective and, thus, that the unwelcome surge in inflation this year, once these relative price adjustments are complete and bottlenecks have unclogged, will in the end prove to be largely transitory,” Clarida said.

“That said, I believe, as do most of my colleagues, that the risks to inflation are to the upside, and I continue to be attuned and attentive to underlying inflation trends, in particular measures of inflation expectations,” he added.

Progress toward full employment has slowed in recent months as the delta wave of the coronavirus has slowed hiring in the U.S. job market. A Labor Department report published Friday showed net hiring of just 194,000 in September, well below expectations for a 500,000 increase. Clarida voiced confidence that accommodative monetary and fiscal policies would eventually restore maximum employment while keeping inflation in check.

He pointed to the “support to aggregate demand from fiscal policy—including the nearly $2 trillion in accumulated excess savings accruing from (as yet) unspent transfer payments” authorized by Congress and the White House over the past year and a half.

—With assistance from Craig Torres

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