Why the 1950s in America can explain stagflation
There has been a great deal of ink spilled recently (some by me) about stagflation. More particularly, the cause of the inflation side of the equation has been perplexing to many. How can inflation above 6 percent persist in a country characterized by well in excess of 6 percent unemployment?
Technically speaking, many have asserted that continuing supply chain woes have caused an aggregate supply curve shift to the left thus increasing prices. Further, I have personally noted that there have been speculative asset price spikes in housing and cars and luxury goods as people seek to insulate themselves from future price increases.
While I believe there is truth to be found in both of the above discussions, there is also a significant portion of our current inflation problem that can neither be explained by pure “economic” analyzes nor be addressed with traditional policy as we understand it in academic or political circles. Indeed, the answer is a psychological one.
It is widely understood that the 1950s represented the gilded age of middle-class America and perhaps witnessed the greatest leveling of any nation’s standard of living in the history of capitalism. The cause of this, to be sure, was partly a result of technological advancements and the use of accumulated wartime capital for the production of consumer goods at prices that were beyond attractive. It was also a function of fundamental psychological shifts in the consumer.
I remember growing up (and being far too young to hear such stories) listening to my older uncles talk about their experiences in the European theater of World War II. It was clear that they enjoyed some therapeutic effect by acting as raconteurs of the horrors of war. Similarly, my aunts who were in America suffered through material shortages, rationing, and the stress of their loved ones fighting overseas. Is it any wonder then, when the trauma of war was over, that everyone might modify their consumption behavior? Is it any wonder that they might throw caution to the wind? That is precisely what they did. After the war, even as members of middle-class society, they bought cars, homes, household appliances, jewelry, and clothing. They engaged in a certain degree of “retail therapy.”
This is what we are experiencing now. For example, a very exclusive jeweler in my home town told me recently that 2020 was their best year (in more than a century) in terms of sales. A recent interview with owners of the Davidoff cigar boutique in London revealed that they had seen a dramatic increase in the average price and quality of cigars being purchased there. Simultaneously, wealthy individuals who store their cigar collections on site had been noted as now consuming (with some regularity) those items previously set aside for aging in anticipation of a “special occasion.”
To understand the impact of this, let us imagine for a moment that the US unemployment rate has risen from 3.5 percent in early 2020 to an “official” 4.2 percent today. The official number of unemployed people will then have risen in America from about 5.7 million people in early 2020 to roughly 6.8 million today. What’s more, Jerome Powell has noted that the non-official rate of unemployment in America (taking into account those who have lost benefits and those who have left the labor force) is probably closer to 10 percent. During the heights of the pandemic, an official 10 percent unemployment rate was associated with more than 16 million people out of work.
Let’s also imagine, due to what is called “autonomous consumption” (consumption taking place regardless of income to ensure survival and a basic standard of living while receiving benefits or anti-poverty assistance) that the consumption of these newly unemployed 10 million people does not fall to zero but rather falls to half of its previous level. Is it so difficult to believe that the remaining workers (all 152 million of them) are capable of increasing their consumption enough to offset the loss in aggregate demand caused by rising unemployment?
I think this is exactly what has happened but likely with the total offset being accomplished by the top 20 or 30 percent of income earners and wealth holders. This is a group currently generating substantially more macrolevel aggregate demand than was lost by the newly unemployed or by the middle class being unwilling to consume out of a quite rational sense of caution.
The current stagflationary environment in America is, therefore, explainable by a level of post-traumatic consumption the likes of which we have witnessed before. Of course, its apparently persistent nature will likely yield a policy minefield for central bankers and defiitely represents a threat workers if inflation becomes targeted.