18. Januar 2004
„Stagflation“ was a term that was coined to describe the situation that emerged in the early 1970s. It combined the words „stagnation“ and „inflation“ to describe a phenomenon in which economic growth stagnated while the rate of inflation increased.
This followed the decade of the 1960s, a decade of phenomenal economic growth and social advances in which almost everything seemed possible. In the United States, it seemed to give sturdy embodiment to President Kennedy‘s concept of „Why not?“ - in other words, we should not doubt our capacity to reach „imposssible“ goals or to satisfy „impossible“ aspirations but, when an „impossible“ project is suggested to us, our response should be, „Why not?“
Not only in the United States but, for example, in my homeland of Australia, we had, in the 1960s, one of the highest rates of sustained economic growth in our history.
We had full employment, high public and private fixed-capital investment, and low inflation. In the last few years of the decade, expenditure on such things as education, health and welfare doubled - in real terms - and then began to double again.
In the United States, both welfare and civil rights were embraced as never before. As part of the Cold-War struggle but going beyond it, the United States realised the goal set by Kennedy of putting a man on the Moon by the end of the decade. More aid was given to the developing countries than ever before and, through such arrangements as UNCTAD, the prospect was for ever-increasing advancement of the world‘s poorer people.
All of this was at a time when the Cold War and the Vietnam War as a particular manifestation of it, were absorbing so much of United States resources.
Despite all this, when Richard Nixon became President in January 1969, inflation was modest - certainly manageable by the standards that were to come in the next fifteen years or so.
In retrospect, it probably would have been better if the Nixon Administration had simply let things be.As it is, we might recall the Shakespearean warning, „In trying to better, oft we mar what‘s good.“
By the summer of 1969, Nixon had already applied or was in process of applying fiscal restraints and in July of that year, the Chairman of the Fed announced a hike in interest rates.
At that point, stagflation, though not yet christened, was born.
In my book, The Multiple Abyss (forthcoming), I wrote -
„In July 1969, six months into the first Nixon Administration and just twelve days before man took his first steps on the Moon, the Federal Reserve Board raised interest rates. In the midst of all the drama of the times, the raising of interest rates seemed a dull, stodgy, inconsequential event. So, not surprisingly, it was received with calm and, initially at least, understanding. The United States had spent enormous amounts of money on the Cold War, on the Vietnam War, on aid to less developed countries and, above all, on President Johnson‘s welfare society. The resources of even the mighty United States economy were stretched and prices were rising. So the Fed acted ‚to slow the economy down.‘ Its action was, in the conventional wisdom of the time, ‚correct‘. But what happened then?
„One account [in The Indigent Rich, pp.41-2] said that - ...towards the end of 1969, that is, less than six months after the Fed had acted, policies instituted by the Nixon Administration began to push unemployment up. The intention of these policies was to stop inflation by reducing demand. Demand was to be reduced by reducing personal income, which was assumed to be a function of increasing unemployment. But President Nixon had already arranged in his message to Congress that ‚if unemployment were to rise‘ the programme of unemployment insurance ‚automatically would act to sustain personal income.‘ He had therefore undermined in advance his capacity to attack inflation through increasing unemployment and reducing personal incomes.
„But he was more shackled in his capacity to attack inflation by these means than even this contradiction in his policies demonstrates. For his policies, if they did not reduce incomes as much as the increase in unemployment would have done in an earlier period, they did reduce production. The number of unemployed shot up by more than one million in less than a year. The rate of increase in the gross national product dropped sharply. The President‘s Council of Economic Advisers estimated that the United States economy, in the second quarter of 1970, was operating at about 4 per cent below its potential capacity and that the real rate of growth of GNP in the third quarter was down to 1.4 per cent - or to 2.5 per cent, if the effect of the General Motors strike were excluded. Growth in the fourth quarter was probably nil. The difference between these estimates and the real rate of growth of 5 per cent or more before the advent of recessive policies was substantial; and was borne out by data showing movements in industrial production. From a peak in July 1969, the index of industrial production dropped steadily to a point 7 per cent lower in October 1970. The decline was sharper as unemployment grew (and as the General Motors strike caused further production losses). The index which stood at 173.1 in October 1969, had fallen to 166.1 in September 1970, and 162.3 in October 1970“.
Here was the essential cause of stagflation, identified (even before its baptism) in The Indigent Rich as early as 1971. By 1974, the term itself had been coined and in „Inflation: A Study in Stability“, published in that year, I wrote -
„If it is socially unacceptable to move demand down far enough to balance supply, then the only way of achieving balance in an inflationary situation is to move supply up or, at least, keep it up to meet demand. Our failure to try to do this explains why we have so often had ‚stagflation‘. When insufficiency of supply started to cause inflation, we have applied - and, indeed, we still do apply - monetary and fiscal policies that curtail certain areas of demand, including investment demand, and that curtail production. This reduction of supply while demand necessarily stays up under the pressure of government as well as of private outlays, achieved those twin evils of more unemployment and higher prices.
„When we have reached that point of ultimate frustration, we have then - just as we did in the 1930s - flailed around desperately for remedies roughly within the confines of our existing economic orthodoxies. Wage levels are said to be too high (that was a favourite in the 1930s too); therefore wages should be frozen or cut. Others say we need an incomes policy and price control. Or we should revalue the currency or cut tariffs. Most governments have tried some of these; some have tried them all. None really works.....“
Thirty years later, we still haven‘t moved far beyond where we were in 1974. We now depend almost entirely on hiking or cutting interest rates to solve our problems of inflation - and just about everything else, domestic and external.
We have learned to live with high rates of unemployment, low rates of real investment, inadequate economic and social welfare, education and health, widespread poverty, inequality, homelessness and all the rest.
I have noted above that the policies that thrust us into the stagflationary 1970s were applied just days before Man took his first steps on the Moon.
The Moon program was curtailed in the early 1970s and we‘ve never embarked on any manned space program to any heavenly bodies since. The first President Bush talked about it but nothing was even begun. The current President Bush talks of going back to the Moon - thirty years on - and perhaps from there to Mars; but we know that neither he nor his successors will ever do it.
They will never do it unless economic policies are fundamentally changed and we turn from the wrong road that Nixon took in July 1969 and follow another, more positive, more dynamic, more enlightened road whose elements have been adumbrated above.
I might just say a final word on unemployment. It is a misery for the individual and a curse for the economy and the society. It is, above all things, avoidable and its definition political. More than thirty years ago, in The Indigent Rich, I wrote -
„Full employment, especially of labour, achieves a political definition, as distinct from a technical definition, over time. At the end of the Second World War, it was widely considered that a level of 4 per cent of unemployment would constitute a reasonable definition of full employment of labour. Against a background of unemployment during the thirties rising to 20 per cent and even 30 per cent and remaining, for long periods, at or above 10 per cent, it was understandable that 4 per cent should look pretty good. But, as time passed, unemployment began to settle, for long periods and in an increasing number of countries, below 4 per cent and to move towards an almost irreducible level of 1 to 2 per cent. Once people become accustomed to an unemployment level of 1 per cent, then a movement back to a rate of 2 per cent causes what is regarded as widespread distress and 3 per cent or 4 per cent comes to be regarded, in many countries, as a national disaster.“
What is certain, whether thirty years ago or now, is that unemployment causes, to put it at its lowest, a dreadful waste of valuable human resources. In recent years, in the developed world, we have become used to unemployment rates of over 5% and often over 10%. In many of the poorer countries, the chronic rate is 20, 30, 50% or even more. Underemployment is as much a curse as unemployment. Wage rates, even for the fully employed, often do not constitute an adequate living income.
Unemployment and underemployment of those who want to work reduce the potential of the society in which they occur, limit human aspirations and frustrate the „impossible“ dreams of both individuals and societies.
Starting with the Nixon policies of 1969 - which were adopted by other governments and were approved and continue to be approved by mainstreamer economists right up to the present day - we moved away from full employment.
We became so entangled in policies that strangled employment that few now seem to believe that we can ever return to the employment situation that we knew in the 1960s.
That is a attitude of inexcusable despair. There is no good reason that we should not return to policies of full employment. Such a return would not only enable us to solve - positively - our problems of inflation, stagflation or whatever, but also put us once more on the path to achieve a multitude of our aspirations including, if we so choose - and not at the expense of neglecting our needs here on earth - a voyage to the planets and even onwards - if we believe it not to be „impossible“ - to the stars.