I'll offer up a half baked and probably unoriginal theory that the U.S. has a different track record of unemployment cycles and recessions because we don't have a cohesive political economy. Yes, we have a common currency, an active central bank, and a strong federal government but regional differences are more profound than these unifying factors. I bet that an analysis of the unemployment rate and per capita economic output of our five largest states over a timespan of 40 years would reveal that they have outperformed the bottom twenty states by a significant margin. Consequently, prosperity of the big states is more persistent over time---California is rich and gets richer while Alabama stays poor. When we've had national recessions California experiences less pain while Alabama gets punched in the face.
I think this explains in part the success Trump has enjoyed in the geographic middle of the country. People in the rural areas and 2nd tier cities of those states have experienced hard landings more frequently and more severely than in larger cities.
Great post Scott. I’d also submit that with RGDP accelerating after 2022 whilst NGDP and inflation decelerated, we have a hallmark positive supply shock that hit exactly at the right time (luck). You mentioned
Immigration, but the reversal of supply side distortions during the pandemic also boosted productivity from zero (slightly negative) growth between q420 and q422 to 2.5% p.a. during the last two years. The ASAD model lives another day…
That's right. In this post I focused on wage inflation, where immigration was the key. As far as the reduction in price inflation, it was partly due to fixing Covid supply problems, as you suggest.
People point to Australia not having a technical recession from 1991 to 2020 as being due to high migration, as we did have a couple of “per capita” recessions. The trouble with that argument is that Australia previously had very severe recessions while having high rates of migration. The change in the RBA’s monetary policy was crucial. This supports your argument about the importance of Fed policy but also migration—as the US experienced it—as a positive supply shock. The positive supply shock argument does rely on accepting that migration can suppress (rather than cut) wages.
I say “as the US experienced it” as there is no single way immigration operates since the claim that humans are interchangeable widgets (Samuelsonian “humans as economic particles in a social physics”) is at best true only for very narrow uses, which do not include migration. There are almost three case types: how Australia does it (mostly well); how the USA does it (mixed, but mostly working); how Canada/UK/Western Europe does it (various levels of failure: with the more migrants from the Greater Middle East—Morocco to Pakistan—the worse the failure, hence Sweden being reduced to considering paying migrants to go away). Canada used to be like Australia, but Justin Trudeau could screw anything up …
It was watching low-end wages surge in the US and UK—but not in Australia—during the Covid migration pause that made me realise that the degree to how a country did migration affected the Baumol effect mattered.
Australian migration works well largely because our migration policy makes capital slightly more plentiful compared to labour—as our migrants have slightly higher levels of education than the locally born, so do not suppress the Baumol effect—but also because we mostly avoid large “lumps”, which leads to more conformity to Anglo-Celtic norms. Also, the Australian political system militates strongly against migration operating as an elite project imposed on a reluctant electorate.
177,000 net new jobs in April, if the preliminary official count is not too revised....
Giving the anti-tariff'ers their due, the damage done by wildly undulating Trump import levies may take a few months.
The tariffs are, of course, part of a picture of an entirely unpredictable Administration that alone would make for caution among investors. So, it is hard to "seg out" what impact the tariffs are having.
But it may be the tariffs are not that important. Even the blundering chaotic, wildly too high (245%-China?) Trump tariffs have been estimated to reduce GDP growth in the Asian Pacific by 0.5%--1% or so. Bad, but not catastrophic.
Obviously, monetary policy is more important---the ever-discussed Smoot Hawley tariffs were but a minor actor in the 1930s Depression stage.
Beyond that, many nations have flourished behind protective tariffs in the post-war era---could they have flourished even more? Maybe, but they undeniably flourished. Tariffs (or even other more-intrusive trade barriers) or not.
The best course now is for the Fed to do what Sumner says, and target steady NGDP at 4% (maybe 4.5%?), and perhaps start building their balance sheet.
I am not sure why, but large central bank balance sheets do not seem to play much of a role in inflation. It could be that when a central bank buys government bonds, the money goes into capital markets, but not into consumption. So the supply of global capital is expanded---a supply-side boost---but not consumer demand in any particular nation. In the real world, that is.
The happy side-effect of bigger central bank balance sheets is that taxpayers are essentially deleveraged---the deleveraging gives comfort to remaining government bondholders that IOUs will be honored---also lowering borrowing costs.
Immigration helped, but the diversion from time to demand deposits helped more.
What Trump needs to do is have the FDIC lower deposit insurance levels back to $100,000. This while draining reserves. This would raise the real rate of interest, aka, the "Taper Tantrum".
I'd prefer someone with market monetarist leanings, a deep understanding of banking, and good communication skills. Perhaps George Selgin. Actually, I'd be happy with lots of other choices, but I'm going to mention just one because the longer the list, the more insulting it is to be left off.
I recall your post from 2017, which convinced me that Warsh would be a disaster as Fed Chair. Did you never share that view, or have you changed your view?
Thanks for reminding me. I had forgotten about that post, and perhaps my standards have been lowered given all that has transpired over the past 8 years.
In addition, I suppose I was responding to Richard's implication that Trump would probably pick a sycophantic dove, which does not describe Warsh.
Given that just about every appointee has been a sycophant, I find it hard to see how he'd nominate anyone who shows independent thinking. He probably thinks Arthur Burns was too hawkish.
Selgin would be a good candidate. But he still doesn't understand money and central banking. All monetary savings originate within the system, not outside of it.
Something seems odd about this to me. I mean, I presume that its merely the shock of the unexpectedly high numbers of immigrants and I'm not clear on why you think that should be big enough here to matter. Especially given that the unexpected immigration was likely all in low skill jobs (at least in short term) so wouldn't any inflationary effect mediated through demands for higher skilled workers would be unaffected (and isn't it a relatively small fraction of total US wages that go to unskilled workers)?
But beyond this wouldn't any effect here be mediated via unemployment? So if one assumes that the limiting factor on the fed raising interest rates to combat inflation is the unemployment rate shouldn't it all come out in the wash?
In other words, in the world without the immigration shock wouldn't the fed merely have raised interest rates more and achieved exactly the same effect? If not why not?
That's a reasonable claim, but here I'm primarily trying to explain why wage inflation wasn't even worse, given the size of the NGDP overshoot. It's possible that money might have been tighter without the immigration, but there are times when the Fed temporarily falls "behind the curve". The explosion of aggregate demand in 2021-22 seems to have caught the Fed off guard, at least for a while.
This is a common misconception. Population growth does not directly impact aggregate demand, which is a nominal concept. The Fed may accommodate more population with more money, but they need not do so.
Fed credibility kept wage inflation somewhat under control.
The immigration surge was a positive supply shock.
NGDP growth has been brought down gradually.
Close;
Fed credibility kept downwardly sticky price sectors_ "under control" allowing inflation to reduce their relative prices and adjust to the COVID shocks
Support or non support it’s the Fed’s job, not the President or the Congress to chose the optimal inflation rate.
It’s a matter of opinion how much of the inflation WAS optimal or if some was mistaken. Personally I think the Fed should have starter trying to disinflate sooner than March 22. Your model may differ.
"Personally I think the Fed should have starter trying to disinflate sooner than March 22. Your model may differ."
No, my model doesn't differ. But Biden indirectly pressured Powell to inflate during 2021. I'm perfectly happy blaming the Fed, but Biden contributed to the problem.
Indeed even Trump shares part of the blame, for replacing Yellen with Powell.
How do you know Biden pressured the Fed? Aside from not (unfairly) blaming the Fed for the inflation as it (properly) started to go over target and, stupidly, piping up about inflation being temporary? [Of course the Fed was not going to move to a higher target; the “F” of FAIT means that over-target inflation is temporary.]
Trump indeed did improperly pressure the Fed in the first term and is doing it again, but Biden?
I think naming Powel is about the only wise thing Trump did (I give credit for Warp Speed to Pence’s staff.)
I don't know what Biden did to indirectly pressure Powell to inflate in 2021 so perhaps you will tell me.
In 2021 Biden was considering his Fed Chair nomination. He was deciding between Democrat Brainerd and a second term for Republican Powell. On 2021 November 9 Powell spoke a DEI conference (sponsored by the Fed, the ECB, the BoC, and the BoE) perhaps to ingratiate in front of Democrats.
In Powell's remarks at the DEI conference he said the Fed will look at smaller data sets in determining if it is time to tighten policy. Smaller data sets is my characterization. He said "While monetary policy does not target any particular group of people, when we assess whether we are at maximum employment, we purposely look at a wide range of indicators, and we are attentive to disparities in the labor market, rather than just the headline numbers." To identify a disparity, you would consider a group of people and recognize a disparate outcome in the labor market compared to a different group of people, where both groups are smaller than the whole populace. When you have smaller data sets, you respond to the condition of outliers which means you can choose to delay monetary tightening.
Around the same time, I remember Powell publicly credit Brainerd with her contribution to the idea of looking at smaller data sets (my characterization).
A few days later on 2021 November 15, the bond market 5 year inflation expectation soared to 3.17 percent but the Fed would not tighten . The Fed asset holdings continued to grow. Biden picked Powell a few days later on 2021 November 22.
On 2022 March 11, the bond market 5 year inflation expectation soared to 3.52 percent but the Fed would not tighten. The Fed asset holdings continued to grow.
On 2022 March 16, a committee advanced Powell's nomination with a 22 to 1 vote. On the same day the Federal Funds Rate was raised for the first time in the pandemic era and the growth in the Fed's asset holdings would soon stop and be reversed.
I don't know how early the Fed should have tightened policy and I know they like to wait until the regular meetings but the timing certainly makes it look like tightening was postponed until Powell was assured of his personal gain, his second term. Maybe none of this matters because other countries with their own politics and policies also had unusually high inflation. What do you think?
You're happy to blame the Fed but the timeline makes it look like a personal aspiration was at work, in addition to any institutional weakness.
Exactly. it is up to the central bank to chose the optimal rate of inflation, independent of what fiscal policy is. I’ll even agree that in principle one might fault fiscal policy for departing form an NPV rule in addition to the real income effects for creating a “scandal” (a stone over whihc on my trip) for the Central bank. But I still do not think that it is useful to judge fiscal policy for its (indirect if at all) macro effects.
I'll offer up a half baked and probably unoriginal theory that the U.S. has a different track record of unemployment cycles and recessions because we don't have a cohesive political economy. Yes, we have a common currency, an active central bank, and a strong federal government but regional differences are more profound than these unifying factors. I bet that an analysis of the unemployment rate and per capita economic output of our five largest states over a timespan of 40 years would reveal that they have outperformed the bottom twenty states by a significant margin. Consequently, prosperity of the big states is more persistent over time---California is rich and gets richer while Alabama stays poor. When we've had national recessions California experiences less pain while Alabama gets punched in the face.
I think this explains in part the success Trump has enjoyed in the geographic middle of the country. People in the rural areas and 2nd tier cities of those states have experienced hard landings more frequently and more severely than in larger cities.
"If we really do engage in excesses, the appropriate punishment is a boom—i.e., everyone should knuckle down and work harder."
Sumner, how would you have created a boom in the Soviet transition to capitalism, c. 1990?
Maybe look a what the Chinese did?
Great post Scott. I’d also submit that with RGDP accelerating after 2022 whilst NGDP and inflation decelerated, we have a hallmark positive supply shock that hit exactly at the right time (luck). You mentioned
Immigration, but the reversal of supply side distortions during the pandemic also boosted productivity from zero (slightly negative) growth between q420 and q422 to 2.5% p.a. during the last two years. The ASAD model lives another day…
That's right. In this post I focused on wage inflation, where immigration was the key. As far as the reduction in price inflation, it was partly due to fixing Covid supply problems, as you suggest.
People point to Australia not having a technical recession from 1991 to 2020 as being due to high migration, as we did have a couple of “per capita” recessions. The trouble with that argument is that Australia previously had very severe recessions while having high rates of migration. The change in the RBA’s monetary policy was crucial. This supports your argument about the importance of Fed policy but also migration—as the US experienced it—as a positive supply shock. The positive supply shock argument does rely on accepting that migration can suppress (rather than cut) wages.
I say “as the US experienced it” as there is no single way immigration operates since the claim that humans are interchangeable widgets (Samuelsonian “humans as economic particles in a social physics”) is at best true only for very narrow uses, which do not include migration. There are almost three case types: how Australia does it (mostly well); how the USA does it (mixed, but mostly working); how Canada/UK/Western Europe does it (various levels of failure: with the more migrants from the Greater Middle East—Morocco to Pakistan—the worse the failure, hence Sweden being reduced to considering paying migrants to go away). Canada used to be like Australia, but Justin Trudeau could screw anything up …
It was watching low-end wages surge in the US and UK—but not in Australia—during the Covid migration pause that made me realise that the degree to how a country did migration affected the Baumol effect mattered.
Australian migration works well largely because our migration policy makes capital slightly more plentiful compared to labour—as our migrants have slightly higher levels of education than the locally born, so do not suppress the Baumol effect—but also because we mostly avoid large “lumps”, which leads to more conformity to Anglo-Celtic norms. Also, the Australian political system militates strongly against migration operating as an elite project imposed on a reluctant electorate.
I did a post on what my local cafe says about the success of Australian migration policy.
https://www.lorenzofromoz.net/p/my-local-cafe-shows-the-difference
177,000 net new jobs in April, if the preliminary official count is not too revised....
Giving the anti-tariff'ers their due, the damage done by wildly undulating Trump import levies may take a few months.
The tariffs are, of course, part of a picture of an entirely unpredictable Administration that alone would make for caution among investors. So, it is hard to "seg out" what impact the tariffs are having.
But it may be the tariffs are not that important. Even the blundering chaotic, wildly too high (245%-China?) Trump tariffs have been estimated to reduce GDP growth in the Asian Pacific by 0.5%--1% or so. Bad, but not catastrophic.
Obviously, monetary policy is more important---the ever-discussed Smoot Hawley tariffs were but a minor actor in the 1930s Depression stage.
Beyond that, many nations have flourished behind protective tariffs in the post-war era---could they have flourished even more? Maybe, but they undeniably flourished. Tariffs (or even other more-intrusive trade barriers) or not.
The best course now is for the Fed to do what Sumner says, and target steady NGDP at 4% (maybe 4.5%?), and perhaps start building their balance sheet.
I am not sure why, but large central bank balance sheets do not seem to play much of a role in inflation. It could be that when a central bank buys government bonds, the money goes into capital markets, but not into consumption. So the supply of global capital is expanded---a supply-side boost---but not consumer demand in any particular nation. In the real world, that is.
The happy side-effect of bigger central bank balance sheets is that taxpayers are essentially deleveraged---the deleveraging gives comfort to remaining government bondholders that IOUs will be honored---also lowering borrowing costs.
Just IMHO.
Immigration helped, but the diversion from time to demand deposits helped more.
What Trump needs to do is have the FDIC lower deposit insurance levels back to $100,000. This while draining reserves. This would raise the real rate of interest, aka, the "Taper Tantrum".
If offered the chance, would you serve as Fed Chair in 2026? If not, who would you pick?
No, I don't have the other skills required.
I'd prefer someone with market monetarist leanings, a deep understanding of banking, and good communication skills. Perhaps George Selgin. Actually, I'd be happy with lots of other choices, but I'm going to mention just one because the longer the list, the more insulting it is to be left off.
I'll go out on a limb here and predict you won't like the May 2026 nominee.
I wonder what would happen if the other voting members of the FOMC disagree with the chair.
Probably, but not necessarily. Several of the names being floated are OK with me. (Warsh, Waller, Bullard, etc.)
I recall your post from 2017, which convinced me that Warsh would be a disaster as Fed Chair. Did you never share that view, or have you changed your view?
https://www.themoneyillusion.com/warsh-on-fiscal-and-monetary-policy/
Thanks for reminding me. I had forgotten about that post, and perhaps my standards have been lowered given all that has transpired over the past 8 years.
In addition, I suppose I was responding to Richard's implication that Trump would probably pick a sycophantic dove, which does not describe Warsh.
Given that just about every appointee has been a sycophant, I find it hard to see how he'd nominate anyone who shows independent thinking. He probably thinks Arthur Burns was too hawkish.
I suppose we can hope.
I agree. But keep in mind that three of his appointees had to drop out because of lack of support in the Senate.
Selgin would be a good candidate. But he still doesn't understand money and central banking. All monetary savings originate within the system, not outside of it.
Something seems odd about this to me. I mean, I presume that its merely the shock of the unexpectedly high numbers of immigrants and I'm not clear on why you think that should be big enough here to matter. Especially given that the unexpected immigration was likely all in low skill jobs (at least in short term) so wouldn't any inflationary effect mediated through demands for higher skilled workers would be unaffected (and isn't it a relatively small fraction of total US wages that go to unskilled workers)?
But beyond this wouldn't any effect here be mediated via unemployment? So if one assumes that the limiting factor on the fed raising interest rates to combat inflation is the unemployment rate shouldn't it all come out in the wash?
In other words, in the world without the immigration shock wouldn't the fed merely have raised interest rates more and achieved exactly the same effect? If not why not?
That's a reasonable claim, but here I'm primarily trying to explain why wage inflation wasn't even worse, given the size of the NGDP overshoot. It's possible that money might have been tighter without the immigration, but there are times when the Fed temporarily falls "behind the curve". The explosion of aggregate demand in 2021-22 seems to have caught the Fed off guard, at least for a while.
Immigrants are both producers and consumers. Why does the "additional producer" side lower wages more than the "additional consumer" side rises them?
This is a common misconception. Population growth does not directly impact aggregate demand, which is a nominal concept. The Fed may accommodate more population with more money, but they need not do so.
Fed credibility kept wage inflation somewhat under control.
The immigration surge was a positive supply shock.
NGDP growth has been brought down gradually.
Close;
Fed credibility kept downwardly sticky price sectors_ "under control" allowing inflation to reduce their relative prices and adjust to the COVID shocks
_Inflation_ was gradually brought down to target.
Biden really did over-stimulate the economy and create excess inflation.
Nope! whether or not the Bidne spending package was wise or not, (NPV expenditures > or< 0) the inflation was created by the Fed.
Biden supported and encouraged that Fed policy, even reappointing Powell.
Support or non support it’s the Fed’s job, not the President or the Congress to chose the optimal inflation rate.
It’s a matter of opinion how much of the inflation WAS optimal or if some was mistaken. Personally I think the Fed should have starter trying to disinflate sooner than March 22. Your model may differ.
"Personally I think the Fed should have starter trying to disinflate sooner than March 22. Your model may differ."
No, my model doesn't differ. But Biden indirectly pressured Powell to inflate during 2021. I'm perfectly happy blaming the Fed, but Biden contributed to the problem.
Indeed even Trump shares part of the blame, for replacing Yellen with Powell.
How do you know Biden pressured the Fed? Aside from not (unfairly) blaming the Fed for the inflation as it (properly) started to go over target and, stupidly, piping up about inflation being temporary? [Of course the Fed was not going to move to a higher target; the “F” of FAIT means that over-target inflation is temporary.]
Trump indeed did improperly pressure the Fed in the first term and is doing it again, but Biden?
I think naming Powel is about the only wise thing Trump did (I give credit for Warp Speed to Pence’s staff.)
I don't know what Biden did to indirectly pressure Powell to inflate in 2021 so perhaps you will tell me.
In 2021 Biden was considering his Fed Chair nomination. He was deciding between Democrat Brainerd and a second term for Republican Powell. On 2021 November 9 Powell spoke a DEI conference (sponsored by the Fed, the ECB, the BoC, and the BoE) perhaps to ingratiate in front of Democrats.
In Powell's remarks at the DEI conference he said the Fed will look at smaller data sets in determining if it is time to tighten policy. Smaller data sets is my characterization. He said "While monetary policy does not target any particular group of people, when we assess whether we are at maximum employment, we purposely look at a wide range of indicators, and we are attentive to disparities in the labor market, rather than just the headline numbers." To identify a disparity, you would consider a group of people and recognize a disparate outcome in the labor market compared to a different group of people, where both groups are smaller than the whole populace. When you have smaller data sets, you respond to the condition of outliers which means you can choose to delay monetary tightening.
Around the same time, I remember Powell publicly credit Brainerd with her contribution to the idea of looking at smaller data sets (my characterization).
A few days later on 2021 November 15, the bond market 5 year inflation expectation soared to 3.17 percent but the Fed would not tighten . The Fed asset holdings continued to grow. Biden picked Powell a few days later on 2021 November 22.
On 2022 March 11, the bond market 5 year inflation expectation soared to 3.52 percent but the Fed would not tighten. The Fed asset holdings continued to grow.
On 2022 March 16, a committee advanced Powell's nomination with a 22 to 1 vote. On the same day the Federal Funds Rate was raised for the first time in the pandemic era and the growth in the Fed's asset holdings would soon stop and be reversed.
I don't know how early the Fed should have tightened policy and I know they like to wait until the regular meetings but the timing certainly makes it look like tightening was postponed until Powell was assured of his personal gain, his second term. Maybe none of this matters because other countries with their own politics and policies also had unusually high inflation. What do you think?
You're happy to blame the Fed but the timeline makes it look like a personal aspiration was at work, in addition to any institutional weakness.
That sounds right. I believe the delay in renominating Powell was Biden's subtle way of pressuring him to hold off on tightening.
The monetary authority can choose to counteract fiscal effects. To the extent it doesn’t, the fiscal effects go through.
Exactly. it is up to the central bank to chose the optimal rate of inflation, independent of what fiscal policy is. I’ll even agree that in principle one might fault fiscal policy for departing form an NPV rule in addition to the real income effects for creating a “scandal” (a stone over whihc on my trip) for the Central bank. But I still do not think that it is useful to judge fiscal policy for its (indirect if at all) macro effects.
If you repeatedly lie about my views, expect to be banned.