Odd Lots - Dan Alpert on the Big Difference Between Now and the 1970s

Episode Date: October 25, 2021

Official inflation measures in the U.S. remain elevated and so, of course, this has a lot of people thinking about the 1970s. Not only was this the last time the U.S. had a sustained period of high inflation, it was the period during which many of today's policymakers really started to form their views about managing the economy. On this episode, we speak with Dan Alpert, a managing partner at Westwood Capital, and a fellow at the Cornell Law School, about his new report on inflation risks, and what he sees as false comparisons to the 1970s.See omnystudio.com/listener for privacy information.

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And I'm Tracy Allaway. So Tracy, I think we recorded an episode on the recent CPI day. But regardless of when it was, I think there is this view now that although I don't know whether it's like team persistent or team transitory or whether teams are the right way to be thinking about this. that the sort of elevated inflation that we've seen for various reasons, logistics, commodities, et cetera, it doesn't seem to be going away anytime soon. Yeah, we actually spoke about this on an all-thoughts episode. It was with one of the Fed governors. I think it might have been Kaplan, but we asked whether or not transitory was like a good way to describe it or whether they regretted choosing that word. And I think like, you know, fast forward a few weeks. It's very, very clear that the Fed probably regrets using the term transitory and probably would have benefited from using something like, you know, I guess broad-based inflation versus narrow inflation, something like that.

Yeah, or just maybe like pandemic-related inflation, like something like super pedestrian. Because I do think like we're in this situation where people have taken transitory to mean like, oh, it's going to be like this very brief spike. We'd have two months up and then we'd quickly go down. And that hasn't happened yet. That being said, we are still in the mix of just like this very weird tumultuous time for the global economy. We talked about it recently with Jeff Curry and just like all the different things going on, Chinese energy rationing and Indian coal shortages and weather patterns and all kinds of stuff. And so there's just like a bunch happening. And I think like the question is, well, will this normalize?

Well, when the pandemic is over and policy normalizes, will we have an inflationary environment that more or less resembles the pre-crisis environment? Or are we going to be in some like new elevated inflationary regime? Yeah, I mean, with the surge in energy prices, the analogy that everyone is reaching for right now is the 1970s, right? The idea of double-digit inflation and slower economic growth, so a sort of double punch of stagflation. Although I got to say, I feel like a lot of people are just using stagflation as like a synonym for inflation now when they are two very different things. But you're

definitely seeing more people talking about that. Yeah, you know, and obviously job creation in the U.S. has been a little bit slower than perhaps we would have hoped in the spring. But on the other hand, like retail sales, the consumer seems to be absolutely booming. So the stag part of the stagflation is a little bit hard to see at the moment. But you brought up the 70s, and I think that's really important because obviously that is the decade that people reach for when they look for analogs. And not only was it the last time that I think the U.S. really had sort of sustained elevated inflation, but a lot of our policymakers, central bank governors and, you know, sort of grandees at university, sort of like made their chops

in the 70s or 80s. And so I think it looms very large for how they may save the economy now and how they may view the proper policy response. So understanding what actually happened. Yeah, and we had that episode with Orika Malmondier, and she was talking about inflation expectations and how much individual experiences actually mattered to perceptions of inflation. And, of course, she did that great paper all about how,

if you look at the age of FOMC members, you can basically figure out how they're going to vote on interest rates just based on their age and, you know, their own personal experience of inflation. Right. Well, I think both of us missed the 70s by a little bit. And I think, you know, we talk about the 70s. But like, what happened in the 70s strikes me as then, therefore, an important question.

And then you can think about like, well, can we have these conditions today? So I'm very excited about the guest because he has a new report out. It's titled, Inflation in the 21st Century. taking down the inflationary straw man of the 1970s. We're going to be speaking with Daniel Elpert. He's a senior fellow at Cornell, an adjunct professor at the law school, and he has a managing partner at the investment banking firm, Westwood Capital. Daniel, thank you so much for coming on Nodlots.

Well, thanks for having me on. So what prompted you to write this? I mean, sort of looking at now versus then what really happened in the 1970s? Well, I think the primary thing is coming out of the pandemic, you know, it causes you to reflect on what's happened over the last 12 years since the global financial crisis and what, you know, we did right and what we did wrong. And what opportunities are ahead of us now that we've demonstrated the capacity of the government to step in and do things, that at the time, you know, then and certainly, you know, really right up to the pandemic were considered anathema by many people. And given the fact that we have a domestic policy agenda that's being put forward by the administration and many people in Congress, it's worth examining what the real inflationary risks are today. And by default, you have to go back to looking at what those people who exhibit significant concerns over high inflation are saying with regard to parallels to the 1970s. So the report is far more than just examining the 70s.

it actually examines the economy today. But the period of the 70s is fascinating because, you know, I think you correctly pointed out a couple of things. One, very few people remember it. I happen to remember it because, unfortunately, I'm old enough. But this is 50 years of debate going on over what caused it and is still unresolved. I mean, the profession, the economics profession has no consensus on what caused this very, very odd double spike in inflation during the 1970s.

And I hope we can get into that a little bit today. You know, that, that I think is very important. The second thing is you mentioned stagflation. Well, you know, we pretty much had gotten to the point prior to the pandemic where, you know, there was a, there was a assumption that the economy was in a form of stagnation, Lari, some are secular stagnation, for example. And so the idea that you might have that situation accompanied by inflation naturally leads everybody to say the word stagflation.

Now, I think it's completely ridiculous. after the research that I've done. But having said that, I understand where they're coming from, a fairly low-growth economy with high-price inflation, which back in the 70s, people thought before the 70s people thought was an impossibility. And now people are thinking, oh, my God, that could happen again. But I think the important thing here is that the 70s were unique. They were soo generous in terms of the situations that occurred during that period. and more importantly prior to that period, or at least just as importantly, prior to that period, I'd love to talk to you guys about it. Great.

Well, why don't we go ahead and get into it? So, you know, I know a little bit about the 1970s inflationary experience. I mean, very, very little. Mostly, I know that there was double-digit inflation and there was a big energy crisis and people have talked about it for, you know, every decade since then it feels like. So why don't you go ahead and walk us through what exactly happened and the different theories around what happened? Because as you pointed out, there isn't really a consensus about what drove the price increases of that time. So there are basically three main theories. And then we'll talk about some other things that I'd like to introduce that really accompany this debate.

They are somewhat overlapping, but they each have their own economic theory and political. bent to them. The first one is that the government spent, you know, enormous amounts of money during the Great Society program of the 1970s and incurred significant federal deficits during that period. Obviously, the Vietnam War increased that as well. And coupled with a period of Fed accommodated monetary policy from 1969 to 1971, that somehow all of this money flowing into the economy, this was basically Friedman, in his theory, you know, was what ignited this inflation. So that's sort of the monetarist view, I guess you could say. The second is the one thing I think that, you know, is probably most compelling is that we had

what was called the Nixon shock of 1971 and then in 1973 where Nixon by Fiat, and that's why we call it the Fiat currency system, ended the dollar's convertibility into gold. and then ultimately in 1973 ended the 1944 Bretton Wood system, meaning that all other currencies that were pegged to the dollar were no longer pegged to the dollar, and everybody's currency floated freely. And then you have this complicating factor of the oil price shocks. There were two of them that followed one after the other, and those rippled through the economy, obviously adversely,

because when you increase the price of oil by the percentage that it rose, which was far more than anything you see today, you know, you create, create pressures on the entire economy, and that obviously caused inflation as well. Each of these, however, were somewhat disconnect. You know, the oil price shocks have direct connections, for example, to the Nixon shock, right? Because the Nixon shock ended up devaluing the dollar. Well, oil is denominated in dollars. So clearly, the oil producers in the Middle East wanted to, you know, maintain their purchasing power. and so increased prices to offset that devaluation. On top of that, you had two massive Mideast wars in Israel, one in 67 and the other one in 73.

And so there was political and geostrategic problems that were going on with regard to the oil supply. So it's not a simple story, but when you step back 50 years later and look at it, you start to understand a little bit at least about its uniqueness. Well, the one thing that I think we can discard as an explanation at this point is the whole monetarist deficit argument because what happened, obviously, since 1990, is that the government's been incurring massive deficits and we've had this incredibly low inflation. So it's very hard to look at government deficits. We've also basically been in like, you know, the term forever war gets bandied about, but we've been in some sort of like nonstop foreign engagements. for seemingly decades, and that hasn't contributed to inflation, it would seem? Sure, sure. And whether the spending is military or whether the spending is domestic, I don't think it really matters, but there's certainly a lot of spending.

And the second thing I think that really sort of trashes that argument at the end is when Friedman was writing certainly prior to 1990, you know, the whole notion of quantity theory of money was based on one variable, which is the velocity of that money through the economy being relatively stable. And really from the, you know, throughout the post-war period until the 1970s, it was stable. And then suddenly velocity started to tumble beginning in the mid-1990s, such that, you know, the velocity of money was over two times. The velocity of M2 was over two times in 1995. Today it's about 1.1. or 1.2. That proved to be a very non-stable variable. And then, of course, that allows you to increase

the money supply to whatever you want it to be because money's not moving through the economy as quickly as the economy becomes sluggish. Obviously during the pandemic period, you know, the velocity of money drop like a stone. So this whole issue of money quantity really kind of got shown it to the side. And then you have the Nixon shock. Nixen Chalk, as I say, it's more compelling because suddenly you devalue the dollar and it affects things like oil, it affects things like imports. Well, imports were not as big a factor today. They're a huge factor, then, rather, they're a huge factor today. But they did impact the one thing that we were importing in huge quantities, which was oil.

I mean, oil was, I know this is hard to believe, you know, $4 a barrel, right? Before this all started, three and a half, $4 a barrel. And it spiked up in the mid-1970s, 1973 to $10 a barrel. Well, that's a fairly large percentage increase, right? And by the time we hit 1980, it was $40 a barrel. So just, you know, you get the people looking at oil on an inflation-adjusted basis. They had, what is it, this morning, $82, West Texas. You know, you can draw any comparisons you like.

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That's the Bloomberg Surveillance Podcast with Tom Keene, Paul Sweeney, and me, Alexis Christophores. Subscribe today, wherever you get your podcasts. Bloomberg Surveillance, Essential Listen, You know, as you say, there are multiple theories and there's certainly no consensus. It was kind of a unique time. We have to get further into some of the factors that made a unique or different than the current environment. One deep lesson that central bankers seem to have taken away from that period was the importance of credibility and inflation expectations.

And there is this story that central bankers tell themselves, which kind of positioned themselves, in my view, as like the heroes of history, where Paul Volcker stepped up, crushed inflation by raising rates dramatically. And then ever since then, we've never experienced the 1970s again, in part or maybe in significant part, because central bankers have committed themselves so seriously to fighting inflation at its very first signs. And because we've all been now convinced that central bankers are so committed to fighting inflation, we don't think it's possible that we'll get inflation and that we don't get inflation. And there's this virtuous cycle. And I'm curious, when you look at in your study of the 1970s, do you see evidence or counter evidence to this idea of like the sort of like the expectations channel for surging, surging price levels throughout the decade? So, you know, it's funny, you can look at it that way. And I certainly think what Paul Volcker did was heroic because of the political flack that he took in doing so. And he clearly shut down the trend of

higher inflation. Once that, once inflation of prices and services caught up to wage growth, we were off to the races in the 1980s, that was the actual story of the, of the, of the the expansion from the 80s to present day was that we eliminated this drag on the economy. And that took a ferocious amount of activity on the part of Volga and the Fed to staunch that situation. But what he did is effectively shut down the economy. And that was fairly painful. So the idea that, you know, this was expectation signaling was a little bit of a, you know, reverse

history. It was not expectations signaling. He just went and did it. and hiked up rates to the point where basically he cut off the spigot. You know, so that, that I think, is not an expectations issue. The problem I think that we've had, really, is that we've gone through most of the post-war, post-World War II period, with two assumptions. One, prior to the 1970s, that inflation was something that happened a little bit.

You know, it would go up from, you know, two to three to four percent back down with recessions, and that was sort of it. to the period since the 1970s or after the 1970s where we've suddenly, you know, we've been carrying this boogeyman on our back that somehow says at some point we could end up with hyperinflation, this sort of Weimar Republic German fear of inflation. And yet that is not when you map out that entire period of time. This is an exception, not something that is an actual state. So I think I agree with guys like Jeremy Rudd who wrote an incredible paper for the Fed a couple weeks ago. on expectations there. I think there's not as much to it as people think. People are looking at prices. You know, there was an interesting comment made to me by somebody talking to a regional central bank president last week. And he said that he's been talking to his folks in the district about, you know,

what they think they're going to be able to do with prices in 2022. And basically, the feedback he's getting is, yeah, sure, we hike prices this year and it's great to be able to make money. We have absolutely no confidence we're going to be able to sustain those prices in 2022. And that's very telling, right? So no matter what the expectation signaling is, the reality is, is the businessmen know that they don't want to sacrifice unit volume, you know, to obtain high unit price. And they don't want to sacrifice capacity. And so, you know, at the end of the day, this is a very highly competitive economy with

enormous skew in household incomes to top 1%, top 10%, or whatever you want, however you want to put it. And so in order to be able to grab aggregate demand, you really do need to calibrate your prices to those that they can afford. But the really telling thing, and I don't mean change the subject, but I think it's important to point out, the really telling thing about the 1970s is what preceded it. Because what happened in the 1960s is as worthy of looking at as what happened in the 1970s. What happened in the 1960s is that wage growth, household income growth, exceeded the growth in prices for most of the time, right?

It actually happened in three swings of five-year periods each going back to the 1950s. The reason for that is that you don't know whether or not it's union contracts that were renegotiated or whatever it was, but you had these enormously long periods, which would never really happened very much since then, of huge growth in incomes, exceeding growth in prices. When you look at that from a wealth standpoint, and you overlay wealth growth, rather than look at the condition of households going into the 1970s, you see this huge wealth peak. American households made a lot of money and went into the 1970s rich with most of their capacity, either being domestic, which was subject to exports to.

exported a lot of stuff, without access to capacity from abroad. Only about 10% or so of our consumption was imports. And so, you know, we effectively started to consume at a voracious pace after, you know, many years of being rather parsimonious. At that same time, the baby boom shows up and enters their prime consumption years. So you have to look at this, not just from the standpoint of these unique historical situations that I spoke about before, but about the demographics of the era, about the wealth of households during that era, things that just aren't existing today. So this is exactly what I wanted to ask you about exactly what happened with wages in the 1970s, because I think that informs the way a lot of people feel about inflation, whether it's good

or bad. So obviously, if your wages are rising as much or maybe even more, than inflation, you might not feel that bad about it, but if you think that your purchasing power is being eaten into because your wages aren't increasing as fast, then you're probably really going to hate the idea of inflation. So can you give us a little bit more color on wages in the 1970s? And then two, to your latter point, do you think the conditions that allowed wages to increase in the 1970s are in place today? So clearly, prices for goods and services rose much higher than wages did during the 1970s. All of the gains that were obtained by labor in the 1960s, which were significant, were effectively wiped out by 1979 because of the high level of price growth.

So that was the pain. And typically, you know, when you look at that period, you see about an 18-month lag. It's not that wages didn't grow at all. Of course they grew. And they grew at a higher percentage than they had any other time because of price and services growth. But they were growing less and they were more importantly growing with about an 18-month lag. So that's where the pain of that error comes from, right? You have goods and services prices growing, wages catching up 18 months later.

It's constant pain going on year and year after year, which is why the Volcker intervention was so important because he stopped that pain, right? 18 months later, everything caught up and we were off to the races. So that, I think, is what people remember when they remember the agony of that period. But again, they don't remember what happened in the decade prior where the opposite was occurring, where wages and incomes were actually growing faster than prices, which is where that feeling of prosperity came from in the 50s and 60s. today, obviously, we don't have that. The present state of transmission from GDP growth to household

income growth is so lacking in force that even this, you know, massive pandemic era support of household incomes where we replaced all lost incomes in 2020 and then added a full 15% to the nearly recovered household incomes in the first months, eight months of this year, is going to prove unable to ignite all but a temporary surge in demand, right? That's the problem. Let me, I want to, well, so I want to stop me there because, I mean, I think this is really, like, one of the key questions. And post-grade financial crisis, inequality, there's this huge thing. People talk about this as like, okay, there's a lot of household wealth. There's a lot of a bunch of people making money, but by and large, the middle classes don't

have it. It's skewed. The upper classes don't have as high marginal propensity to consume. so even with all this money, you still don't get the demand. Today, we've seen this big, you mentioned, okay, maybe income growth hasn't won't be sustained, but we have this huge housing boom. So a lot of people feel like they're sitting in a lot of wealth related to their housing. We've had an incredible rally in the stock market. We have had some of the fastest wage growth that we've had in a long time, particularly at the low end, this sort of the gap between the first quartile and the fourth quarter,

Mortarile is the largest ever. I think it's like 5.6 at the lower end. And, you know, it's funny. You mentioned the baby boomers, or you have millennials probably entering their biggest consumption years. And the baby boomers who, you know, now they're on Social Security, just got their biggest COLA increase ever. And so, you know, people used to talk about union wages, you know, marching in

lock stuff with a cola. Well, now they're on Social Security. and they just got like a 5.9% increase, why shouldn't I look at all of these factors coming together and say, wait a second, that doesn't sound so different, maybe to a slightly different degree, but that doesn't sound so different to what you just described about the 1970s. Well, not to pour water on it, it is.

The baby boomers controlled nearly 20% of the nation's wealth by the time they turn 30. Today, they control about 53% of the nation's wealth. That's me, right? That's people my age. At 30, Gen Xers control just under 6% of wealth. And today, millennials barely control 4%. My son is a millennial.

We've turned 30 this year. And his generation controls barely 4%. That's 4% versus 20%. Gen Z doesn't even rate a mention yet. So, you know, this is a very, different situation than occurred in the 1970s. The wealth is much more like, if you want to create an analogy, is much more like Japan, right, where all the old people have it and the young people have it. Now, we might see some intergenerational wealth transfer, although there's many papers,

and there's a lot of literature out on that that runs out that money relative to the extended ages that people are living today and says, you know, there's not going to be a lot of that left over except the very, very top. So you're going to have a lot of sort of plutocratic families and not a lot of generational wealth transfer among the lower classes. So, you know, that is not, I mean, the answer is no. I don't, I don't see that as being comparable. So, you know, you talked about the monetarist interpretation of the 1970s. And of course, you know, the most famous quote related to that has to be Milton, Milton Friedman talking. about how inflation is always and everywhere a monetary phenomenon, I guess that has lent itself

to a characterization of inflation as too much money chasing too few goods. And so there's always this emphasis, or it feels like there's always this emphasis on the idea of too much money. So central banks should be focused on somehow altering the supply of money. But it feels like there's never that much focus on the too few goods aspect of the equation. So I guess I'm curious, how would you apply that framework to our current situation? And what can central banks or the government actually do to boost supply? I'll get to supply in a second, but I do want to correct or at least redirect on the issue of money. Sure.

What Friedman was talking about was the quantity of money, right? The amount of money out there. He was measuring monetary aggregates. the mistake he made is assuming that transmission of money into the economy was relatively uniform. That's where the whole velocity issue came from that I spoke of earlier. Now, and he was living during an era where the much flatter society, right, jinny coefficients were far lower. The issue of money quantity forms of monetarism, I think, were long ago discredited, right?

So there's, you know, counting the amount of, we used to look at M1, money supply is a big indicator in business economics. Nobody looks at that anymore. We don't even publish M3 anymore at the Federal Reserve level. The issue is, you know, the quantity of money part of Freeman, I think, is gone by the wayside. The problem is that the transmission of money has really, really changed substantially. And a lot of that has to do with the issues of income polarization, obviously wealth polarization, but income polarization primarily. getting money into the hands of people who will actually consume with it, which is where you get inflation from, right? So the problem, I think, at the political level, and to some extent at the academic level, is you have some residual aspect of people confusing the two.

And I don't mean, sometimes it's deliberate because it serves their other agendas. But, you know, at the end of the day, it's not about money. it's about getting the money into the hands of people who will spend it, usually, traditionally, through wage income or through, you know, total income, including government transfers. But, you know, it unfortunately during the course of the past 30 years, 40 years, has been progressively getting it to them through borrowing, right? You've created this enormous consumer lending apparatus, which has its own enormous downside. So, you know, that is really the issue when it comes to the monitorist argument is it kind of falls apart at that point when you start to say, all right, this is just about money chasing two figures.

As far as the supply side is concerned, which you asked about, yeah, that's really, really important. And I think where that breaks down, I wrote a book in 2013 called The Age of Oversupply, which is really about the issue of having this exogenous source. of oversupply, and we're all looking at China today on a regular basis, but it's the whole world, not just China. And we all look at capacity in the U.S., and we see capacity utilization very, very low on a historical basis here. The supply chain logistical problems that's given rise to this, you know, reopening shortages, and therefore the price inflation associated with it, you know, shouldn't be mistaken for sustainable demand pull inflation. And the supply push variety of inflation, I think is very, very unlikely. We have enormous capacity. One of the things I did in the paper to

sort of illustrate the excess global capacity, I spent a lot of time on U.S. labor as well, and U.S. capacity, but certainly on the other side, think about this as a thought exercise. You have this enormous increase in the price of shipping goods, because initially ships were in the wrong position, you had crews in the wrong place, you have all sorts of things, and now you have this huge backlog, and the cost is dropping, I will say. It's dropped significant in the last few weeks, but, you know, at one point, it was five or six times when it was pre-pandemic. So on an average container load, which is about $250,000 of goods, you saw the cost of shipping goods increased by 3.6, 3.7, 4%, something like that. At the same time, during the pandemic, the dollar got a lot

weaker. Now, it's gained some strength in recent weeks, but during the pandemic period, the dollar got significantly weaker. If you put all those things together, prices should have gone up by, of imports, should have gone up by like, you know, 8 to 10%. That didn't happen. So that meant that someone somewhere was eating this price increase. And that someone somewhere is obviously the factories outside the United States that were producing goods in order to maintain or grow, in this case, not just maintain production on a unit basis. That's a really incredible thought when you think about it, right? You have all of this excess capacity and they were willing to ship whatever they could net on a marginal basis because they could produce it and why not take in

the income. You know, that, that I think is something that people really, it's going to take a while to study because it's very, very recent. But that really jumped out at me. And that says nothing about where we were pre-pendemic in terms of the quality of the jobs that we were having our people work in, which was very much skewed to low-wage, low-hour service positions.

Yeah, something, I don't know, it's kind of like there's something in how you describe that and it's something I've thought about and kind of a crude analogy. It's almost like there's like potential in kinetic energy. So it's like we might still have this like stock of overcapacity or stock of capacity that is not fully maxed out. But somehow in the actual, the kinetic part, the getting the getting the goods through

the system seems to be where it, you know, it's breaking down and maybe at some point it hopefully it finds equilibrium. You started this conversation by talking about this. We did something unusual during the pandemic, which was we replaced people's lost income. We spent a lot of money. and we essentially took what could have been a massive recession that lasted a long time, a potential depression, and the actual recession ended up being about one and a half months, I think. We were like quickly back to growth because we spent so much. But that does raise the question,

you know, we do have a Fed. The Fed actually seems a little bit more doveish than other global central banks. They announced this new framework. We'll see if they had the degree to which they hew to it. We have an administration that at least right now is trying to engage in serious investing. Like, could the politics change? Like, could we, I mean, this seems to be sort of like a core to the question. It's like, okay, we had these like 40 years of a politics or a political economy in which wealth and wage income and income in general was like very like skewed or very polarized, too, is your word. Could that, could we be on the cusp of a change? because we've certainly had some events in the last year that might suggest as such.

Well, I certainly hope not, but I will say that there are some things going on that are fairly interesting, that again, kind of like the 70s, are exogenous to the larger economic question and really pertain to unique circumstances. For example, the UK is under greater pressure of inflation simply because of the Brexit issue, right? They have created their own problems in that regard in large part by design. They wanted to reflate their economy and reflade wage levels by cutting themselves off from a European market supply of labor and goods. So, you know, that is going to come back and Wipsaw after the pandemic. Pandemic effectively masked that effect. So as demand increases, they're going to face that, again, having nothing to do with the larger question. The whole issue

with OPEC and their reaction, especially OPEC exclusion with Russia, you know, again, creates the oil issue that we're seeing right now. I don't think anyone believes we have an oil supply issue. I mean, in the U.S. alone, we have so many wells that were shut down. If you look at the rig counts building now that prices have gone into the 80s, you know, it's massive. So you're going to have a flood of oil a few months down the line. There's no capacity shortage of oil.

It's just a question of turning on the wells again. And in the case of Europe, resolving some of the issues. with OPEC. Once the price gets high enough, you can trust me, OPEC will say to the Russians, okay, that's enough. And they're going to make hay well the sun shines in terms of taking this higher price. But one of the things that I think, you know, without complicating the issue too much, and taking it back to the U.S., what we experienced as a result of this pandemic is still, you know, the story's not fully told. We're kind of still in the middle innings. We saw this huge, injection into the economy, $785 billion in Q1, 20 of this year, right?

We increase personal income by 17% in the three months of the first three months this year compared to the three months immediately preceding lockdown. And that's incredible, right? For the first eight months of this year, we increased personal income 15% with government transfers. All of these supply bottlenecks, you know, we're, we're, made worse, they were obviously pandemic-related. You first had shutdowns in China and other manufacturers, and keep in mind that when you take out food and energy, imports now are about 45% of our total

consumption. Right. So they have put aside the trade balance and capital count deficit and all the other stuff. Just look at imports, non-petroleum, non-food imports. And you're talking about 45% of what we consume. It's just a huge amount. So when you look at it that way and you say, okay, you shut down the factories and China, and I'm using China as a proxy. It's everywhere. And you then have problems with shipping and getting the goods here. Now we have problems with unloading them. And actually, if you actually really look under the hood and see where the problems are now, the problems are literally moving what's been unloaded and stacked up at the ports out of the ports and across the country.

People are saying we have a trucker shortage. Well, we don't really have a trucker shortage. We have a system that was able to see surges in deliveries during September and October relating to the Christmas season. That's when shipping peaks in this country. But now you have the perfect storm. You have that crashing in to this pandemic reopening demand, right? So you now have just so exceeded the capacity of the system to,

actually absorb that flow, of course you're going to end up with these bottlenecks, and they will clear. And when that happens, we'll be in the later earnings and we'll be able to innings and we'll really be able to write the story. But as far, it's way too early to look at this period with all of these unique circumstances and write a story about it. It, you know, other than to say, you know, at the top of this where you talked about the use of the word transitory, you know, first defined transitory, are you talking about months or, you know, a year? Hello, I'm Michelle Hussein, and for more than 20 years, I was at the BBC. But all the time I was delivering the headlines, I wanted to go further than the news of the day,

to spend more time with the people shaping our world. And that's what I'm doing here on this podcast. Speaking to people from Nigel Farage, to love you trying ever saw. Russia needs to be taught a lesson. To tech journalist Karaswisher. And the tech industry is running wild. You know, they've gotten what they wanted

and they've seen a huge run-up in their stock prices. This will be a place where every weekend you can count on one essential conversation to help make sense of the world. So please join me, listen and subscribe to the Michelle Hussein show from Bloomberg Weekend. wherever you get your podcast. It certainly asks interesting questions.

So we've done a bunch of supply short-hitch episodes at this point. So we've talked at length about them. But I wanted to sort of get back to inflation. And I have a slightly weird question. Actually, a two-part question. And the first half of it is weird. But why are we aiming or why is the Fed aiming for 2% inflation anyway? Like, why is that a desirable outcome for the economy and for society when it seems like everyone is up in arms at the moment about the mere possibility of inflation going, you know, slightly above 2%. Whereas, you know, back after the financial crisis, when we had deflation, it felt like people weren't necessarily as angry or as focused on this topic. And then secondly, how do you actually change the

public narrative around inflation. Like, how do you get people to start thinking about whether or not this is a good phenomenon or whether or not it's something that might be desirable from a total economy standpoint? Well, that's a good question. I think the 2% target, which is now not a locked 2% target, right? We have the new formula of 2% over time, length, long period of time. And that, You know, that's interesting. This is basically what the Fed has thought for decades they needed to hand the financial sector and the corporate sector as a way of ensuring them from an expectation standpoint of stability, right? Because that enables you to see investment. But here's the tricky part. What has happened during that period? Have we seen a surge in investment because people were comforted with the stable investment target and a fairly low investment? target? The answer is no. We've seen investment decline massively. So clearly either expectations aren't a big deal or we really shouldn't be focused on the 2% target. Maybe we should be focused on something else. So the Fed made some corrections in their assumptions. And maybe that's

enough or maybe it's not. But my look is a little bit different. My take is that the U.S. economy did at one time and does best when it's run hot enough such that household incomes rise at a sustainable pace that's slightly in excess of prices for goods and services. That's when Americans feel best, right? And that's what really is a definition of the improvement in the standard of living. If you're making, if you're getting a little bit more wealthier each year, you don't want it to get out of hand because you don't want to create any kind of spiral up or down, Right. But certainly it's better to have a situation where you're creating actual incomes, not consumption. People focus on consumption. They say, oh, retail sales are great. Consumption is great. It's not about consumption. It's about incomes because, you know, if you force people to borrow in order to maintain their standard of living, you're eventually going to have a collapse. So that's really where the issue is. And I think the Fed needs to really start thinking about that. We saw that condition. for the last time in arguably the 1990s and served for an extended period of time in the 1960s.

It's a condition that is totally within our power to reproduce, in my opinion. The, look, inflation-adjusted median incomes in the United States, by contrast, were flat or down from 1999 to 2016. And in the aggregate from 1999, they're only up three-tenths of one percent. for Anna? I mean, this is not great. And so what we've been doing, whether it's because of inflation targeting or all of the fiscal hand-wringing that's been going on, it hasn't been working. You know, one of the, we frequently have guests. And, you know, I think Paul McCulley wrote the intro to your new paper, but we frequently have guests in the school of thought that, you know,

basically over the last several decades, the Fed has tapped the brakes every time it looks like things are going to get vaguely hot. And so you mentioned that they're sort of like the ideal economy is one where it's just like we're just persistently running this sort of like high pressure, somewhat hot economy with the wages outpacing price growth a little bit. And we seem to have this sort of like policy regime in which we don't even let it get there. It's like just the whiff of just the mention of warmth seems to be enough. And how? policy seems to have a slightly different view. And pre-crisis, even, you know, things were not bad pre-crisis, things seemed pretty good.

And even he was like, yeah, this isn't really hot, though. What should the Fed be doing such that we can, and how much is it the Fed, or maybe it should be more fiscal on the fiscal side, to get back to some of those 60s or 90s conditions so that we just have some decent years in a row of income growth outpacing prices? Well, I don't think you're going to like the answer to my question, because, Because at the end of the day, the Fed is out of tools, right? The Fed has tried for, you know, the better part of 12 years to use the monetary toolbox to reinvigorate. Yeah, but they hiked in what, 2015?

Like when, I mean, I mean, this gets to the question of like, okay, the Fed may be out of tools. But again, like, they, the argument is, in retrospect, they hiked prematurely. That was arguably what Jackson Hole last year was about. It was about correcting this impulse that they have to hike before necessary. And that seemed to be the case in 2015 and that there were the multiple rate hikes in 2018, which in retrospect probably were not necessary. There seems to be this thing that they do. And how much could they improve outcomes if they just sat on their hands longer,

which seems to be what flexible average inflation targeting is about? Yeah, well, I think that that's precisely what they need to do, but it is, look, at the end of the day, it runs counter to every one who is, including myself, who is schooled in the importance of central banking, which is, you know, running this at zero, at a zero policy rate, is effectively depriving not only the Fed of tools, but also savers of any sort of return. And one of the difficulties in all of this and not to get too wonky on it is that, you know, the classical economic expression of saving equal investment, which is what drives all economic policy making, right, is to say, wow, we've got all this huge pool of saving so it will be used for investment is something that Keynes realized a long time ago is, you know, only valid over the very long run. And we've created that long run has now become. forever as far as I'm concerned. And that that equation really needs to be ignored from the standpoint of policymaking. Just simply stuffing savings that then go out, you know, looking for returns in secondary investment, you know, trading Bitcoin or real estate or, you know, you name any of this stuff that has grown in price to levels that are not justifiable by the utility, the asset that they're investing in. That creates such massive.

massive distortions in the economy, and, of course, deprive savers of any kind of meaningful return. So, you know, you've got real complications there. If you keep looking for that money to be invested in capacity increasing and job increasing production, and, you know, you stand around for decades waiting for that to happen, and it doesn't happen. You've got to ask yourself a question, why? And the answer is that, you know, when you have this massive exogenous pool of labor and capital that is able to produce at a lower price, the private sector is going to go after that, and that's what it's done. Not to bring back an old argument, but, and it is an old argument, I've been arguing it for a dozen years. You know, the only thing that we can do,

given that we still live within the borders of nation states, and, you know, our individual nation states, you know, most Americans don't have the legal or practical ability to pick up stakes and work wherever else in the world may offer a better crack at prosperity. The fact is that the only other agent that's able to do that in our economy is the fiscal agent, the collective agent of government. And so that's what the Fed is looking at me. Bernanke was unabashed. I mean, the whole notion of saying to the fiscal agent, look, you got to go do something is critical. And that's why what's in front of Congress right now is absolutely essential. because that is what's going to enable.

If you look at it from a holistic standpoint, the fiscal agent will enable the Fed to get off zero. And that's probably the most direct way of putting it to everybody. The fiscal agent, if they spend money, if the government spends this money and injects it into the economy, will enable the Fed to get off zero and resume, refill its toolbox. So I just have one last question, Dan, and this has been very helpful.

But, you know, the way you set up the paper, and the paper isn't just about the 70s, but comparing this to the 70s. Is that the only model, though? Like, could we get runaway inflation from some other things? So it's like, okay, this economy, even with everything we've seen, it still just does not really resemble the 70s.

We still extreme income polarity. The millennials do not have much economic buying power. There's still a lot of excess capacity. both on the energy side and on the international manufacturing side, once we sort out the supply chain issues. But is that the only way... Don't forget the domestic manufacturing side. Could there be another model, or is it enough to shoot down the 70s

and feel like, okay, we don't have to worry? Is that the only way to get sustained inflation? Well, I mean, war works, right? But, you know, God willing, that's not where we're going. You know, there are other ways of creating inflationary situations. But the one that is out there, the sort of boogeyman that's being waved around by even, you know, even Senator Manchin, who's supposed to be on the Democratic side, he's talking about all of this spending because it involves money, you know, resulting in future inflation. And the irony, of course, is that this very unique price spike that's occurring in the post-pandemic. period, which I believe is, in fact, going to prove quite transitory, is giving him and others,

certainly on the Republican side, a great deal of ammunition. And that's unfortunate because if you look at the volume of spending involved both in the infrastructure bill and the reconciliation package, it's really not a lot of money. I mean, it's spread out over an incredibly long period of time. And having that money flow into the economy on a sustained basis over that period of time does in fact, create the ability to transmit it through incomes to households that are more likely to spend it and hopefully reflate not only their incomes, but reflate the economy on a sustained basis. And do what I said before is the important thing, which is to run it hot enough such that household incomes rise at a sustainable pace slightly in excess of prices for goods and

services. Having said that, if we don't do that, I think we're right back to the same secular stagnation, the same oversupply conditions, the same under-employment of U.S. labor that we were at prior to the pandemic. All of these dislocations that we're seeing right now will pass through the system. Just look at the one thing that's sort of glaring, right? And that is the number of people who've yet to resume employment. Now, you've got all sorts of people out there. you know, giving reasons for it, viral concerns, until the schools reopened, everybody was saying, oh, it's people not able to send their kids back to school. Well, they're all back to school and nothing's changed. So you have, you know, on September 6th, you had 10 million people receiving

$600 a week in benefits. It's a lot of money. And they weren't working. Now they're not receiving those benefits anymore. And slowly, as they erode their savings and their other capacity, they will come back to work. People expected it to occur overnight. That's ridiculous. But they will be forced to find incomes. And when they are forced to find incomes, they will have to take up these jobs that are on offer, most of which are low-wage, low-hour jobs. And in my view, we will be back to the same position we were before with maybe some increase in hourly wages, which is a good thing. There was a podcast that was on on Bloomberg that John authors was hosting. And he made a big deal of the Atlanta Fed hourly wage tracker numbers that came out right after that podcast. And I went on to look at it. And it was fascinating to me because, you know, the headline number showed this huge boost in hourly wages. But when you actually look at the system and go down into it, you find that all of it was led by 16 to 24-year-olds, by people with low skills and people at the low.

end of the wage scale. When you see 16 and the gap between the 16 to 24s and the 24th to 55 to 50s was astronomical. And so when you look at something like that, you realize, you know, okay, so a bunch of kids called in for summer jobs, right? Had an enormous wage spike. Ooh, that's great, right? But, you know, that's going to fade immediately. And the problem is that we all get caught up in what I call the paralysis of aggregates, but we all get caught up in the, but we all get caught up in these headlines looking at the aggregate data, nobody looks under the hood to see what it was composed of. It's really important in this period to look at the composition of this aggregate data. It tells you a lot. And I think if you really want to understand what's going to happen over the

next few months, that's where we're getting the information from. Dan Elper, thank you so much for coming on Oddly. Oh, it's my pleasure. Good to talk to you guys. That was great, Dan. Thank you so much. Thanks, Dan. So something that I kept thinking about actually during that episode was actually a comment that Jeff Curry said on a recent episode where he pointed out, because I was just reading back to the transcript of that one, that every commodities boom that we've ever seen, like every sort of has been associated in some level with a big sort of downward redistribution of wealth and income. And so obviously, you know, Dan there was talking about the 60s leading to the 70s, the pre-grade financial crisis boom associated with the huge expansion of wealth of the sort of like Chinese middle class. And so thinking about like Dan's point, it dovetails very nicely with that.

That the only real way to like get a sort of sustained shift in a broader inflationary regime, whether we're talking about commodities or else. otherwise really would have to be something that like shifts buying power meaningfully to the sort of lower and middle classes on a sustained basis. Yeah. Well, Jeff's thesis was like very much focused on the idea of volumetric increase, which is something that like you're only ever going to get the scale if the, um, the purchasing is being done by like as a large, a group as possible. And that's generally going to be low to middle income. Um, the other thing that that I was thinking about, as Dan was talking was, you know, his characterization of the monetary policy transmission mechanism. And this is something that like kind of annoys me and I see it a lot, but there seems to be this, you know, the people who are calling for massive inflation and blaming it on the Fed are the same ones who are kind of saying that like the Fed hasn't done much for many years.

Right. Like the Fed has failed to improve the economy or boost economic growth. But at the same time, they argue that there's going to be this massive inflationary spiral, which I don't know, it just feels like you can't really have both. No, totally agree. You know, the other thing that I thought was super interesting is this, his argument that there is lots of spare capacity right now. And it's a little bit different than some of the other arguments, which is that, you know, and he's like, there's spare capacity in China still, according to him, there's spare capacity in the U.S., which is interesting. And it does make me wonder, like, okay, if the logistics system, like normalizes or finds a way to like run smoothly at a sort of predictable pace, are we going to

get like this big like sort of bust, which I guess is kind of what he's predicting in some way that we get this sort of like quick resumption of the old, the old trend. But, you know, if we're like sort of if we sort of have all these like all these dealers or like restocking inventory, et cetera, and eventually are we going to get to this point where actually there's plenty of spare capacity, we finally have the system worked out to move at all. Are we going to, you know, know, be right back there, like 2% inflation before I know it. It seems plausible. Yeah, it does.

And I mean, this is also sort of the bullwit effect idea that we've been talking about. Right, right, right. The supply chain episodes, the idea that, you know, people will order a bunch of stuff to make up for supply shortages, and then they end up with too much inventory and prices could collapse very, very quickly. So, yeah, it feels like the risk is probably like volatility on either side of the equation. Yeah. At the moment?

No, I mean, I think you're exactly right. Like, at some point, like, you buy enough, right? So I saw a tweet this weekend where someone was like, oh, I watched the bullwhip effect happened right before my eyes because I saw someone order a whole case of New Zealand wine when they were told that there's not much of it available. And now they have, like, a lifetime supply of New Zealand wine. Well, exactly right. It's like, but eventually you don't need to keep buying New Zealand wine.

So you're like, go to the wine store and you buy a case, but then you're not going to of buying a case for a long time and maybe ever again. So I do think that like, you know, it is a very interesting possibility that like, okay, if we really are experiencing this effect and there really is this capacity, maybe we would get this sort of currently unexpected or underappreciated possibility of a sharp downward move again in prices and a resumption of the old trend. Totally. All right.

Should we leave it that? Let's leave it there. Okay. This has been another episode of the All Thoughts podcast. I'm Tracy Allaway. You can follow me on Twitter at Tracy Allaway. And I'm Joe Wisenthall. You can follow me on Twitter at the stalwart. Follow our guest on Twitter, Dan Elpert, managing partner of Westwood Capital. He is at Daniel Elpert. Follow our producer, Laura Carlson. She's at Laura M. Carlson.

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