 |
 |
STAGFLATION!!!Is Jimmy Carter's economy around the corner? Oil prices skyrocketing. Middle East political tensions boiling. Inflation in the mid-teens. The Federal Reserve jacking up interest rates. The economy screeching to a halt. And a new term enters the American economic lexicon: “stagflation.” Winter of 1979? Try summer of 2006. Sound farfetched? Actually, the pieces are all in place. Let’s review those lovely days of "Mad Max," "My Sharona," leisure suits, and gas zooming from 25 cents to a buck-a-gallon. Jimmy Carter, the Socialist with a smile, wimpered helplessly as shrewd OPEC ministers cut production. Worse, Carter’s Administration dumped enormous restrictions upon domestic oil producers. Within months, gas prices quadrupled, unemployment shot to 10% and the economy fell into the toilet. Inflation, of course, reared up to 10%. Federal Reserve chair Paul Volker promptly performed as trained, jacking up interest rates to “fight inflation.” But the higher he raised rates, the worse everything got. Every indicator went wrong. Dutiful to economic dogma, the worse the inflation, the more he raised rates and ruined the economy, and round and round we went. Inflation didn’t disappear until 1983. Suddenly, the economy surged, pounding on all cylinders. Volker and the economists crowed that the Federal Reserve heroically conquered inflation by cranking interest rates up until the economy almost died, and that’s how inflation was slain. End of story, right? Wrong. Inflation was apparently not tied to interest rate hikes, and obviously not tied to an economic frenzy. But inflation was directly tied to oil prices. When oil prices rose, inflation appeared. When oil prices dropped, inflation disappeared. Period. Today, Federal Reserve Chair Alan Greenspan is facing a situation with remarkably similar facets. Over the last few years, the Fed raised rates where no inflation existed, using the cover of a recovering economy, So far, productivity and globalization wages saved Greenspan’s fanny. But war and natural disaster have conspired to spike oil prices. The result? Inflation over 13.4%. Greenspan seems poised to push interest rates higher in response. But do we have inflation, or are we approaching stagflation? Old school economists proclaim that an overheated economy causes inflation, and a slow economy defeats inflation. But the 12 years between Carter, Reagan and even Clinton proved the opposite because there are actually two types of inflation, with two types of responses. An overheated economy requires higher interest rates to regain control. But higher commodity prices have the exact same effect as higher interest rates. In fact, if you take energy prices out of the inflation equation, prices aren’t budging. The energy spike is having the same effect as Fed rate hikes. Thus, raising rates in such an environment eventually creates stagflation. The proper response to commodity based stagflation requires lower rates to inject equilibrium and keep the economy liquid. It seems nobody has ever considered this point. That’s why Greenspan will have plenty of encouragement from Volker’s-“High-Rates-Conquered-High-Oil-Prices” fan club. The little-known secret is that Ronald Reagan (by accident or intent) solved inflation with behind-the-scenes Cold War maneuvers. The massively inefficient Soviet economy stayed afloat by selling oil to get hard currency. After ramping up the armed forces, Reagan tossed a few billion “aid” dollars and a slew of F-15 fighters at the Saudis, Egyptians and Israelis in exchange for a halt in squabbling and a promise to crank up oil production. The Saudis tripled oil output, prices plummeted, and the Soviet Union lost it’s largest source of currency. But Reagan’s tactic had the residual effect of kick-starting the US economy with lower energy prices. The corresponding inflation drop from 10% to 3% directly corresponded to the oil barrel. Period. Volker had nothing to do with taming inflation. It was oil all along. Any fool can read numbers and proclaim, “Look! We have
inflation.” But Volker, Greenspan and all the other pointy-headed
ivory-tower economists bungle the ultimate question: What
kind of inflation do we have? And they rarely ask the follow-up
question: What is the proper approach for the Federal Reserve?
For those who pursue evidence, the only two periods of American
inflation since the 70s were caused by rising oil prices and defeated
by lower oil prices. Thus, the proper response to oil-based inflation
is to lower interest rates, not raise them. Unfortunately, the
Federal Reserve is led by a 1930s economist in a 21st Century
economy. Alan Greenspan’s finger is twitching. If he pulls
the rate-hike trigger, Volker’s stagflation will be the
result. |
|
Permission to reprint
Tom Adkins' article is granted to anyone Written by Tom
Adkins |
|
||||||||||||||||||
