Tales of war, inflation and squandered credibility
What does Jerome Powell, chair of the Federal Reserve, understand that Vladimir Putin doesn’t?
OK, I know that may sound like a trick question.
Yet the Fed and the Putin regime do have this in common: Both took major policy actions this week. The Fed raised interest rates in an attempt to curb inflation. Putin announced a partial mobilization in an attempt to rescue his failed invasion of Ukraine. Both actions will inflict pain.
One important difference, however, is that the Fed is acting to maintain its credibility, while Putin seems determined to squander whatever credibility he might still have.
About the Fed: I’m worried about the effects of rate hikes. There is a serious risk that the Fed’s actions will push America and the world into a gratuitously severe recession, especially because it isn’t just the Fed — central banks are raising rates around the world, and there could all too easily be a sort of destructive synergy from this monetary tightening.
Yet if I were in Powell’s shoes, I would have done the same thing. For the Fed is anxious to preserve its credibility on inflation.
Notice that I said “preserve.” The Fed — like yours truly — failed to predict the 2021-22 inflation surge. But neither financial markets nor the public lost faith that inflation would, in fact, come down in the fairly near future.
That’s an important asset. Subdued inflation expectations are the best reason to believe the Fed can engineer a relatively soft landing — an economic slowdown for sure, maybe a recession, but not the kind of sustained era of extremely high unemployment that it took to end the inflation of the 1970s.
And the Fed is acting to preserve this asset.
Putin obviously doesn’t have similar concerns.
His speech was full of apocalyptic rhetoric, portraying Russia as a nation under attack by the West. But he didn’t announce the kind of full-scale mobilization that rhetoric would seem to imply. Instead, he announced a series of half-measures that defense experts doubt will do much to change Russia’s downward military trajectory.
What struck me, however, was that the new policies amount, in effect, to a betrayal of Russians who believed Putin’s past promises. Notably, contract soldiers — people who volunteered to serve for a limited time — have suddenly found themselves stuck in service for the indefinite future. This may shore up Russian numbers now, but who, in the future, will be foolish enough to volunteer for Putin’s army?
Putin’s clumsy efforts at economic warfare are, in a way, creating similar credibility issues. Russia has largely cut off the flow of natural gas to Europe, hoping to bully Western democracies into stopping their aid to Ukraine. He is succeeding in creating a lot of economic pain; energy prices have soared, and a nasty European recession seems highly likely.
Yet the West isn’t going to abandon Ukraine, especially given its success on the battlefield. So Putin’s attempted economic bullying probably won’t change the course of the war. What it’s doing, instead, is showing how dangerous it is to do business with an erratic, authoritarian. This means that even if and when the Ukraine war ends, Russia’s trade relations won’t return to normal.
Credibility can be squishy, and it can be abused as a rationale for bad policy. And being too rigid about obeying rules even when overtaken by events can do damage.
But maintaining credibility — showing that you will, in fact, honor your promises within reason — is nonetheless important. Putin apparently doesn’t get that, and his contempt for past promises may be his downfall.