The Federal Reserve Board of Governors has finally raised interest rates. On March 16, the central bank announced interest on reserve funds would be 0.4 percent. Bank currency transactions will keep interest rates in a range between 0.25 and 0.5 percent.
Further, officials indicated that several more interest rate increases would be coming down the pike this year, perhaps a total of six.
This is the first interest rate increase since late 2018. That rate hike came after nearly a decade of near-zero rates, to rebuild in the wake of the enormous global financial crash and recession of 2007-2008.
Then the pandemic hit. The Fed slashed rates again.
As the severe global health challenge fades, government officials have more leverage to increase rates. Times that are more normal facilitate, indeed demand, a return to more normal policies if government is going to be responsible.
However, just as the biological public health problem fades, a very serious economic health problem has suddenly appeared – inflation. Moreover, this new threat is not just on the horizon; the price plague is right here among us.
Everyone is now suffering at the gas pump, in the food store, throughout the buying of the array of essentials – and conveniences – that are part of life, as we know it, in an economy comfortable for the majority. Related, the peoples of the rest of the world are approaching, and enjoying, this sort of desirable lifestyle.
The media is generally responding by developing the mantra that comparable inflation occurred in the early 1980s. This is a deceptive oversimplification of a challenge that lasted years.
In the late 1950s, economist William Phillips at the London School of Economics discovered a strong inverse correlation between inflation and unemployment. He himself did not conclude this was some sort of iron law to guide policy, but others did.
A belief based on the Phillips Curve took hold in federal fiscal policies. Professor Walter Heller of the University of Minnesota, head of the Council of Economic Advisers in the Kennedy administration, compared managing the economy to driving a car – you step on the gas or the brakes, depending on the circumstances.
Once again, as through history, human behavior undermined assumptions. By the end of the 1960s, inflation and unemployment were going up together.
During the 1960s and 1970s, problems increased, fast. Escalating federal spending and deficits spurred rising prices. The OPEC (Organization of the Petroleum Exporting Countries) oil embargo and price hikes of 1973 and 1979 fueled financial fires. High and rising unemployment failed to provide relief.
President Lyndon Johnson, aided in particular by Defense Secretary Robert McNamara, deceived Congress and the American people regarding the true costs of the Vietnam War. Good intentions were at least part of the reason.
LBJ did not want to weaken, perhaps lose, his Great Society. This refers to enormously ambitious spending to build on the New Deal reforms of the Great Depression.
Do not scoff. Medicare and Medicaid, along with other aspects of today’s comfortable collective life, were part of the package.
Johnson’s successor Richard Nixon, obsessed with reelection in 1972, aggressively threatened Federal Reserve Chairman Arthur Burns to pursue expansionary monetary policy. The money spigots poured yet more gasoline on the inflation fires.
Paul Volcker, nominated by President Jimmy Carter to head the Federal Reserve Board, finally broke the back of the inflation beast with restrictive monetary policy and high interest rates.
Volcker personifies the gold standard of policy leadership.
Arthur I. Cyr is the author of “After the Cold War” (NYU Press and Palgrave / Macmillan). Contact him at [email protected]