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Why inflation fears are unfounded

This piece was originally published by The Hill on March 1, 2021



There is a hugely important debate going on around President Biden’s $1.9 trillion “Recovery Program” and what he hopes will be a similarly bold “Build Back Better” infrastructure program to follow. Important economists like former Treasury Secretary Larry Summers of Harvard and Desmond Lachman, former deputy director at the IMF now at the American Enterprise Institute are warning that the recovery program alone risks causing inflation and a financial sector meltdown down the road. These dire warnings will be amplified if the recovery legislation passes and Biden moves on to seek funding for his “Build Back Better” infrastructure program.


I do not believe that even two large government spending programs like these will lead to anything like the inflation we had in the 1970s for a basic reason: There is much more price-dampening competition in the blue-collar bread and butter sectors of the U.S. economy in 2021 than there was in the 1970s when the U.S. last had significant inflation. The macro-economists do not give much weight to these changes, but the differences between the 1970s and today are enormous. (See my book: “The Competition Solution: The Bipartisan Secret behind American Prosperity,” AEI Press, 2005).


The U.S. economy in the inflation-wracked 1970s was significantly cartelized and powerfully unionized making it prone to price and wage inflation. Prices and wages in much of the economy were “administered” by powerful players largely sheltered from price competition. In the 1970s, the U.S. manufacturing sector was dominated by a de facto auto and steel cartel centered in the Midwest. The big three car companies — General Motors, Ford and Chrysler — bought their steel at essentially the list prices Big Steel set. There was no hard bargaining over price. That cozy relationship essentially dissolved in March 1982 when the big three, facing increasing competition from imported small cars and new car plants in the South, insisted on lower prices and better-quality steel from the American steelmakers.


“Ma Bell” was the nickname for the AT&T telephone monopoly before it was broken up by the Supreme Court in 1982. Consumers had to rent phones from Ma Bell. They could not buy a phone and plug it in to Ma Bell’s system. American businesses paid through the nose for emerging data services and for lines connecting their own plants. The breakup of Ma Bell is a complex story but suffice it to say that the company and its union, the Communication Workers of America (the CWA) profited fulsomely from the anti-competitive arrangements. Ma Bell’s angry business customers, a feisty upstart company that started out selling CB radios to truckers named MCI, and consumer-sympathizers at the Federal Communications Commission (FCC) finally broke that inflationary monopoly.


Trucking and other shipping modes compete now much more fiercely than in the 1970s. Back then, regional rate bureaus controlled by the trucking companies, set shipping rates in 10 or so U.S. regions. Trucks bringing a load from New York to Chicago usually had to return empty: They could not pick up “back hauls” from Chicago to New York. The truckers and the Teamster union fought to maintain these price fixing arrangements that presidents since FDR had known were exploitative. Finally, in 1980 the Carter administration succeeded in forcing price competition on this big piece of the economy, as well as on freight railroads and airlines. All the competing delivery services available today build on this history.


Competition between Walmart, Target, Amazon, Home Depot, grocery chains and other retailing platforms since the 1970s has made it much harder to raise prices in this large sector of the economy too. Mark-ups between producers and the retail customer often exceeded 100 percent in department stores, but Walmart and others squeezed bloated rents out of the supply chain. Today retail and wholesale markets are constantly under pricing pressure and the Internet also allows many more newcomers to challenge incumbents by charging less.


Summers and Lachman point correctly to recent increases in energy and raw material prices to make their case about the risks of Biden’s ambitious plans. Energy markets though are far more competitive than in the 1970s when OPEC drove oil prices from $3 to $12 per barrel and those increases were “passed through” to other parts of the economy. New competing technologies have emerged, as they have in other sectors. Today energy price increases cannot be easily maintained and passed through.


There will be other industries in addition to energy and raw materials where prices jump in 2021 as the U.S. economy revives from the COVID-19 depression. John Maynard Keynes wrote during the Great Depression that there always would be shortages and price increases in a few areas — think semi-conductors today — despite overcapacity in most. So what? In 2021, such increases will not last. Supply will catch up or users will adjust.


The question to ask is this. If Biden is allowed by the Congress to run the economy hotter than it has run in the past, say aiming for 5 percent growth instead of 2.5 percent in transforming to a greener economy, who in 2021 will have the power that entrenched post-war companies and unions had to raise prices and stop competitors from challenging them? No one is my answer.


The inflation threat in 2021 is not in the job-creating meat and potatoes economy of manufacturing and services. These sectors should be run hot so that employers have to pay workers better and train them to deal with economic changes. The risk as Summers and Lachman know is in the casino economy where speculators gamble to make quick short-term profits. It would be a dangerous mistake to let fear of inflation and then a bursting bubble in the financial sector hamstring the economy that could make good jobs for real men and women who have been telling us for decades that this is what they want. The government needs to contain the speculative fevers and drive investment toward that real economy.