A Different Mind-Set For The Fed:
More Inflation Not So Bad After All
Michael Cox, director of the William J. O’Neil Center for Global Markets and Freedom in SMU's Cox School of Business, writes about the potential benefits of inflation.
Low inflation provided the stability necessary for a period of low interest rates and strong economic growth. The Fed deserves most of the credit for cutting inflation and keeping it low. During the recession that began in December 2007, however, the Fed allowed inflation to get too low. Indeed, prices fell at an annual average rate of 8% from July to December of 2008, exacerbating the weakness in real estate and other asset values and plunging property owners into financial hardship.
Faced with a financial panic and deep recession, the central bank then reversed course and flooded the economy with bank reserves, which helped arrest the economy's fall but left the Fed sitting on a powder keg of potential inflation.
In the decade ahead, a scarred and scared Fed — its independence in question — will seek to reduce the risks of recession, accepting the trade-off of higher inflation. What's more, government debt at $12 trillion and growing looms over us, providing political motives for raising inflation targets.
This shifting ground for monetary policy is the theme of this fifth installment of a six-part IBD series looking at the post-recession realities for the six drivers that propelled the U.S. economy from 1982 to 2007. The first four parts looked at technology, globalization, credit and the consumer; after inflation, the series concludes with the changing role of government.
Not all that long ago, the Fed was taking bows for steering the economy through a quarter-century of strong growth with low inflation. The Great Recession, though, exposed the central bank's unsteady hand — too loose while the housing bubble inflated, then too tight when it burst.
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