January 12, 2015


Volcker, Reagan & History (Robert Samuelson, January 12, 2015, Washington Post)

From the late 1960s to the early 1980s, there were four recessions.

Inflation became a monster, destabilizing the economy and destroying trust in national leadership. The Gallup Poll routinely asks respondents to select "the most important problem facing the country." From 1973 to 1981, the "high cost of living" ranked No. 1. People lost faith in the future, as they have now.

Krugman's story is simple. The Fed is "largely independent of the political process" and, under chairman Paul Volcker, "was determined to bring inflation down," he wrote. "It tightened policy, sending interest rates sky high, with mortgage rates going above 18 percent." The result was "a severe recession that drove unemployment to double-digits but also broke the wage-price spiral."

Indeed. By 1982, the gain in consumer prices had dropped to 3.8 percent. Volcker crushed inflation.

Story over? Not really.

What Reagan provided was political protection. The Fed's previous failures to stifle inflation reflected its unwillingness to maintain tight-money policies long enough to purge inflationary psychology. Successive presidents preferred a different approach: the wage-price policies built on the pleasing (but unrealistic) premise that these could quell inflation without jeopardizing full employment.

Reagan rejected this futile path. As the gruesome social costs of Volcker's policies mounted -- the monthly unemployment rate would ultimately rise to a post-World War II high of 10.8 percent -- Reagan's approval ratings plunged. In May of 1981, they were 68 percent; by January 1983, 35 percent.

Still, he supported the Fed. "I have met with Chairman Volcker several times during the past year," he said in early 1982. "I have confidence in the announced policies of the Federal Reserve."

This patience enabled Volcker to succeed, though it took about two years of tight money. It's doubtful that any other plausible presidential candidate, Republican or Democrat, would have been so forbearing. During Volcker's monetary onslaught, there were many congressional proposals, backed by members of both parties, to curb the Fed's power, lower interest rates or fire Volcker. If Reagan had endorsed any of them, the Fed would have had to retreat.

What Volcker and Reagan accomplished was an economic and political triumph. 

While we ought not undervalue that component of the Reagan presidency, three others were just as important : winniong the Cold War freed up economies across the globe; pursuit of free trade increased access to cheap labor and goods; and breaking PATCO ended the impetus of the labor movement and halted the seemingly inexorable rise of wages. 

Posted by at January 12, 2015 3:29 PM

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