STAGFLATION? SOFT LANDING? IT DEPENDS
Let me start with a picture, which will help frame the debate. Take a look at official consumer price inflation, measured over the previous six months but converted to an annual rate, since the beginning of the Biden administration.
Why six months? It’s a compromise. Monthly numbers are too noisy: While news reports often cite price changes over the previous year, those numbers seem to lag too far behind a rapidly changing economy.
So, about that debate: In early 2021 some economists, most famously Larry Summers, warned that the Biden administration’s big spending package would be highly inflationary. Others — myself included, unfortunately — downplayed that risk. And as inflation accelerated over 2021, we initially argued a large part of the story involved “transitory” factors, like a shortage of shipping capacity as the world recovered from the COVID-19 pandemic, and that inflation would soon reverse.
But inflation just kept rising. Team Transitory was proved wrong. I admitted as much.
At that point, however, the debate shifted. How hard would it be to get high inflation down again? Again, economists took sides.
One side — call it Team Stagflation — argued it would take years of pain and high unemployment to restore price stability, which is what happened after the high inflation of the 1970s.
The other side, Team Soft Landing, argued the situation was very different this time. The conventional view is that disinflation was so hard in the 1980s because high inflation had become entrenched in expectations. In mid-2022, however, both surveys and prices in financial markets showed an expectation inflation would soon fall back to normal levels.
So Team Soft Landing argued that disinflation wouldn’t actually be that difficult.
Well, official inflation rolled over in mid-2022, and has fallen even faster than it rose. Notably, this happened without any significant rise in unemployment, so far.
This led to a big role reversal. At this point, pessimists are arguing the rapid decline in inflation reflects transitory factors rather than a fundamental reduction in inflation pressures. And to be fair, recent inflation numbers have been held down in part by one-time events that probably won’t continue.
On the other hand, a huge factor in recent inflation data has been high rates of increase in the official cost of shelter, which mainly reflects rental rates.
So where does that leave us? I’d say these various temporary factors are more or less a wash; the inflation surge may not be completely behind us, but there’s good reason to believe we can restore price stability without huge economic pain.
But then I would say that, wouldn’t I?
Recently, the Bureau of Labor Statistics has been making big revisions to past estimates — big enough to cause large changes in the narrative.
The November release seemed to show a clear pattern of slowing inflation. Then, in December, the BLS not only released a higher wage number but revised older numbers up so that the new trajectory seemed to show inflation getting worse. And then, in January, it revised the numbers again, and the inflation trajectory looked better again.
So I waited for the release of the Employment Cost Index, which is probably the best measure we have of wage pressures. And it was good.
It shows overall wages and salaries rising at 4% rate, only a bit higher than they were prepandemic. As Mike Konczal, a leading member of Team Soft Landing, put it: “The Fed has lost its excuse for a recession.”
No doubt this debate will continue. But I think we’re approaching the point at which Team Stagflation will have to do what Team Transitory did a while back: admit that they got it wrong, and try to figure out why.