In the run-up to the campaign I saw reports of young people, frustrated that Biden hadn’t managed to do the huge student loan forgiveness that he’d tried to do, say that they weren’t going to vote for him or for Kamala. “If he can’t get this thing done, why should I support him?” Here’s why:
“Beginning May 5, the department will begin involuntary collection through the Treasury Department’s offset program, which withholds payments from the government — including tax refunds, federal salaries, and other benefits — from people with past-due debts to the government. After a 30-day notice, the department will also begin garnishing wages for borrowers in default.”
Many politicians and financial analyst types are suggesting that the Fed should “look through” tariff-induced price hikes. Superficially this makes sense, because a one-time cost increase is not the same thing as inflation. Unfortunately, we know that the results are bad.
The example I’m thinking of is the price shock from much higher oil prices due to the 1973 OPEC oil embargo. As that price shock moved through the economy, first oil prices went up, then gasoline prices went up, but very shortly all prices moved up, because every business faced higher energy costs, and needed to pass at least a fraction of them forward. And then, of course, all the businesses that bought things from those businesses needed to raise their prices further, and workers started demanding higher wages because their costs were going up.
The Federal Reserve tried to “look through” that price shock, not raising interest rates, even though prices were rising. As I say, this makes sense. The one-time price shock will move through the economy, raising many prices by various amounts (depending on how much the inputs for each particular item increase in cost, and the market constraints on price increases for each particular item). Once that all works through the economy, the prices increases should stop.
In fact, raising interest rates could easily make things worse, because the cost of credit is another cost to nearly all businesses, so it’s just another expense that they have to pass on, and it’s a cost to employees, that they’ll want to recover in wage negotiations.
But we know what happened: Inflation rose enough that the Fed eventually decided that it needed to raise interest rates. Higher interest rates hurt the economy, threatening to produce a recession. The Fed cut interest rates to head off the threatened recession, which led to inflation, which led to the Fed raising rates again, etc.
The result was the stagflation of the 1970s, which only ended when new Fed chairman Paul Volker raised rates high enough to produce a severe recession, and then kept them high for long enough to wring the inflation out of the economy.
To me it’s clear that “looking through” the “one-time” price shock of higher tariffs will produce the same result. The Fed can probably mitigate it by holding rates at their current levels until the price shock works its way through the economy (which will probably take a least a year, because many prices (wages, rents, etc.) are only renegotiated annually), and only cut rates after price increases settle back down to close to the Fed’s 2% target.
I assume the Fed governors know this. Do they have the courage to take the right action? Only time will tell.
Some financial commentators are suggesting that the hit to the economy from the new tariffs will push the Fed to lower interest rates, but I don’t see it. The tariffs will push up prices, so the Fed will feel it needs to stick with higher rates for longer.
A group of friends and I agreed last week that the most likely result of the most likely policies coming out of this administration is stagflation.
Talking about it reminded me of the Wise Bread post I wrote All about stagflation, so I re-read that. I think has held up pretty well, even though circumstances (financial crisis followed by a pandemic) meant that things didn’t play out as I’d expected. Even so, I think the analysis of how to produce a stagflation is right on: raise interest rates to bring down inflation, but then panic when it’s clear that you’re in danger of producing a recession and cut rates before you’ve gotten inflation under control; repeat until you have high inflation and a recession.
That is, stagflation is usually the result of a timid Fed, that’s afraid to do its job.
The thing is, the policies that I see coming (tariffs and tax cuts) will produce stagflation even if the Fed does a great job. The tariffs directly raise prices, and the tax cuts (through increased deficits) raise interest rates, producing a recession.
In the Wise Bread article I warn that it’s tough to position your investments for stagflation. The reason is that inflation makes the money worth less (helping people with debts, but hurting people with money), while the recession hurts people with debts and people with investments.
Upon reflection though, I don’t think it’s quite that bad. In fact, it’s really just regular good financial advice:
Avoid debt (you’ll get crushed by a recession faster than you’ll get rescued by inflation).
To the extent that you have assets, move them into cash (initially you’ll get screwed by inflation, but pretty soon rising interest rates will save you).
Limit your investments in stocks, and especially limit your investments in your own business (both much too likely to get crushed by recession).
Basically: live within your means and stay liquid.
I don’t think of myself as someone who wishes ill for others. I genuinely do not wish for anyone to come to harm. But I’m struggling just a bit with schadenfreude right now.
Take, as an example, the wildfires in California. As I mentioned a couple of weeks ago, these fire events were not just entirely foreseeable; they were actually foreseen forty years ago. And yet, there are tens of thousands of people who apparently made the calculation that the views from a house on a hillside at the urban-chaparral interface were so good it was worth taking the risk—and especially so, given that a large fraction of the costs of fighting those fires, and insuring against financial loss, could be spread to other people. People like me.
I think I’m allowed a bit of, “I hope you are enjoying the entirely foreseeable consequences of your choices.”
By Tuesday, the winter storm will drop freezing rain, sleet and likely several inches of snow onto south Louisiana, including in New Orleans, Metairie, Slidell, Baton Rouge and Lafayette.
I have to admit that when people in red states face an extreme weather event that’s entirely to be expected, a certain part of me thinks, “Well, you could have voted for politicians and policies that would have greatly ameliorated climate change, but you didn’t. Enjoy the entirely foreseeable consequences of those choices.”
And, as a non-climate example, apparently a lot of black and brown male voters refused to vote for Kamala Harris. I suspect many of them will be surprised and saddened by the utterly predictable deportations of friends, family members, neighbors, coworkers, and employees over the next few years. And I will be very sad about that—sad for the people deported and their friends and family, and also about the dreadful police actions that will be required to make them happen. But I hope I will be excused from feeling no sympathy for the bosses who find themselves having to pay up to get workers who haven’t been deported, and very little sympathy for the people who voted for these policies and find that everything they want to buy costs more.
“Welcome to the entirely foreseeable consequences of your actions as well.”
I had one of these accounts whose rate never went up as interest rates rose. I kept it longer than I should have, but I eventually switched banks. (I wasn’t going to switch to their higher-rate “Performance Savings,” because screw that. They can pay a market rate, or they can lose my business.)
[Capital One] operated two separate, nearly identically named account options — 360 Savings and 360 Performance Savings — and forbade its employees to volunteer information about or marketing… the higher-paying one, to existing customers.
I lived in Los Angeles briefly in 1986. While I lived there, my dad sent me this book:
It talked about landscaping to minimize fire, flood, and mudslide risk, but my key takeaway was, “Only a moron would live in Southern California,” and I moved away before the end of the year.
I keep hearing this stupid ad which, due to an infelicitous pause in the audio, seems to say, “Before you invest carefully, consider the funds objectives, risks, charges and expenses.” I always want to respond, “Before you invest carelessly, don’t bother.”
