Milton Friedman and the Biden Inflation

Blue:  The Quantity of Money Relative to Output
Red:  The Consumer Price Index
This Graph at FRED:  https://fred.stlouisfed.org/graph/?g=1vFil

From Tim Doescher at Heritage:

Milton Friedman famously said: “Inflation is always and everywhere a monetary phenomenon, in the sense that it is and can be produced only by a more rapid increase in the quantity of money than in output.”

From W. Lee Hoskins at Cato:

Friedman (1960) provided the well-known argument that attempting to stabilize the price level directly might in practice destabilize the economy because of the long and variable lag with which monetary policy acts on prices.

So I'm not quite sure how it got to be the Biden inflation.

From trumpwhitehouse.archives.gov

The opening sentence at this link:

"Before the Coronavirus spread from China across the globe, President Trump helped America build its strongest economy in history."

Not even close.

The Ptize Lecture

https://www.nobelprize.org/uploads/2018/06/lucas-lecture.pdf

Covid and Profit

This graph shows corporate profits in red, and in blue the same blue data we saw yesterday, the interest rate that the Fed uses to fight inflation. Last time the graph started in 2019. This time it starts in 2012:

This Graph at FRED: https://fred.stlouisfed.org/graph/?g=1uOsu

Corporate profits ran pretty flat between 2012 and Covid -- the right-side scale shows profit running between 2000 and 2500 billion. Immediately after the Covid recession, profits jumped to almost 3000 billion. But not quite as immediately as the graph makes it seem. 

The Covid recession (gray bar) lasted through February and March 2020. It was over by April Fools' day. The red line -- corporate profit -- reaches a low at that point, which appears to be the first of April. But the data at that low point is for the second quarter of 2020, which includes April, May, and June. The total profit over those three months was low, and no doubt they knew it would be low, but they did not have that number until the end of June. 

The data is plotted at the start of April. There is a three-month lag that we do not see. (By the way, you can check dates and values by hovering over the graph at FRED.)

After that second-quarter low, corporate profit shot up to almost 3000 billion in the third quarter of 2020. It dropped just a little in the last three months of the year. And then it shot up again for six months, reaching almost 3500 billion dollars in the second quarter of 2021.

Now, back up. Come halfway down that last increase, to the dot on the high side of 3000 billion. This dot represents the data for the first quarter of 2021. The first quarter of 2021 ended with March. That March was the month when Jerome Powell warned us that inflation was on the way. At that point, near the end of the first quarter of 2021, we had not yet been hit by that inflation. This means that the profit increase from April 1, 2020 to mid-March, 2021 -- an increase of almost 1000 billion dollars -- was not caused by the inflation, surprising as that may be.

Apparently, it was mostly caused by the Covid shock putting people out of work. Compensation of employees fell by over 700 billion dollars in the second quarter of 2020 alone.

When I first noticed that profits increased in the Covid years, I figured it was because of the inflation. But profits shot up before inflation took off. When Covid lockdowns put people out of work, labor costs fell, so profit went up. Today, of course, the employment level is as high as it was before Covid, and more or less back to normal. A lot of people are working again -- and presumably getting paid -- but corporate profit did not go back down. How can that be?

The inflation, maybe? Inflation did not cause the sharp increase in profit in the first Covid year. But inflation did sustain high profits and boost them in the later Covid years. The data appears to support this view.

Thus the argument can be made that "corporate greed" was in part responsible for the inflation. Yes, the Q-of-M increased like crazy, and by keeping interest rates at zero the Fed put up no resistance to inflation. But the money had to go somewhere. Before Powell's inflation warning, the money went to profits instead of to employee compensation. When people started going back to work, the money to sustain high profits started coming from price increases. From the inflation.

This Graph at FRED: https://fred.stlouisfed.org/graph/?g=1v73y

The red line is faint on this graph, but it still shows corporate profit (using the same data as the first graph). The blue line again shows the interest rate the Federal Reserve uses to fight inflation. The black line on this graph is new. It shows inflation as measured by the Consumer Price Index (CPI).

The gray circle on the black line, the faint blue circle below it (on the blue line), and the faint gray vertical line through those two circles all identify the location of March 2021 on the graph. As the gray circle shows, until March 2021 inflation was still low, still close to the Fed's 2 percent inflation target. But, as you can see, corporate profit was shooting up like crazy.

After March 2021, inflation and rising prices sustained high profit and drove it higher. Unemployment was nearing 6 percent and more or less back to normal. Labor costs were up because more people were working. It was no longer the labor-cost savings that boosted corporate profits. It was inflation. That sounds like corporate greed to me. Corporate decency would have been better.

Hm, I wonder if the high cost of interest (at 4 percent and above, say) induced corporations to keep raising their prices. Now that the blue line is starting to come down, maybe we will see profit level off. And maybe the rate of inflation will drop back down, closer to that 2 percent target. Something to keep an eye on.

Always waiting too long

Interest rate data in the graph below. Red and green are 5-year rates. Blue is the Federal Reserve policy rate:

This Graph at FRED: https://fred.stlouisfed.org/graph/?g=1uaVr

Everything fell in March 2020, because of Covid.

The five-year rates were increasing by October 2020. The Federal Funds rate didn't begin to increase until March 2022.

The increase of the five-year rates started decelerating by May of 2022. The Federal Funds rate did not begin to decelerate until December of that year.

The five-year rates started falling after October 2022, and after October 2023, and after April of 2024. The Federal Funds rate did not fall, at all, between March 2020 and September 2024.

The five-year rates were constantly exploring their options: going up a little, testing the water, going down a little, and down a little more, changing their mind and rising, always testing the water. The Federal Funds rate fell to zero and sat there for two years. When it started rising, it rose continuously for a year and a half. And when it peaked, it stayed at the peak rate for a full year.

Sure, the Fed has a different objective than private investors. But when you refuse to change your interest rate decisions for long periods of time, you paint yourself into a corner. And when you finally do decide to change the rate, you suddenly discover you are behind the curve and you need to make oversized changes rather than small, cautious, gentle ones.

It's not like the Fed is new at this. It's like somebody convinced them to create some crazy 9 percent inflation, and follow up with a recession. That's what it's like.

Unemployment before and after Covid

Yesterday we looked at the trend of unemployment based on the Obama years (but after the Great Recession), and based on the Trump years (but before the Covid shock). I wanted to show a third graph, with the trend based on the Biden years after the Covid shock, when unemployment appears to have returned to its normal behavior. But that graph didn't show anything useful. I don't know why.

Maybe there was not enough data between July 2022 and August 2024 to make a trend line that looked reasonable in the pre-Covid years. Or maybe the Fed's high interest rate started pushing unemployment up in early 2023 (as I said before) and put a "kink" in the trend line. And maybe the kink shows up as a massive mismatch between trend and data in those pre-Covid years. I dunno. But I couldn't use that graph.

So I went back to FRED's unemployment data. In red, I underlined two years of data before the Covid shock, and two years after it. I want to compare the two underlined periods:

This Graph at FRED: https://fred.stlouisfed.org/graph/?g=1uyts

By eye -- my eye, at least -- the post-Covid increase seems to be accelerating upward noticeably faster than the pre-Covid decrease was slowing. As I said a couple of weeks ago:

To my eye, unemployment started going up around January 2023 - more than a year and a half ago, now -- and started accelerating around January 2024. They waited too long before bringing rates down.

It still looks like that, to me. But I don't trust my eye more than I trust arithmetic. So in Excel, I sorted the March-2018-to-Feb-2020 data in reverse-date order, turning the decrease into an increase. Then I showed the two periods starting together on a graph. Here is the result:

Comparison of Pre-Covid data (reversed) and Post-Covid data

There's not much difference between the two lines. They start at 3.5 percent unemployment, both of them, and after two years they end up only 0.2 percent apart. On this graph, I don't see the recent accelerating increase of unemployment that I thought I saw on the underlined FRED graph.

But after sleeping on it, I notice that the left half of the graph shows the blue line mostly at-or-below the orange line. And the last seven or eight months show the blue line mostly at-or-above the orange. So the difference between the two lines may be more than the 0.2 percent difference we see between the August 2024 and March 2018 data.

I could take the blue line and move it up by 0.1, more or less centering the blue line on the orange in that first year. This might even be a reasonable manipulation of the data, given that I want to see the differences that arise in the second year.

Here's how the graph looks with the blue line values increased by 0.1:

By eye, at least, the blue line is roughly centered on the orange through 2022 and 2023. In December 2023 and January 2024, the two lines are identical at 3.8 percent unemployment. For the rest of 2024, blue gains on orange: The post-Covid increase in unemployment outpaces the (chronologically reversed) pre-Covid decline. This is the acceleration I was looking for! The arithmetic confirms the eye.

 

Is it reasonable to take a two-year decline in unemployment, put it in reverse chronological order, and compare it to a two-year increase? I dunno. It seemed reasonable, at the time.

Are we gonna have a recession? I dunno. I expect one, yeah, but I don't predict.

Does it matter if we get a recession when we could have avoided one?  Yes, definitely.

Does this post show that the Fed should have started lowering the interest rate during or before January 2024? Yes, definitely.

Recent Trends in Unemployment

First, the downtrend of unemployment after the financial crisis and the 2008-09 recession:

The gray line shows the rate of unemployment since January 2007. On today's graphs, the gray shows the FRED data from

https://fred.stlouisfed.org/series/UNRATE

The blue line on this graph shows that data for the Obama years, beginning about when the unemployment rate started falling. The red line, here a "linear" or straight-line trend, was calculated by Excel from the data indicated in blue on the graph. (For both graphs today, the blue line indicates the data Excel used to calculate the trend line.)

The change in unemployment, from  more or less above the trend line in 2012-2013 to more or less below the trend line in 2014-2015, is probably an indication that the economy was at last starting to do better by 2014. The change in the blue line to mostly horizontal in 2016, was due to other changes in the economy. Off the top of my head I'd say the Federal Reserve, increasing interest rates in late 2015 and after was the  cause of that relative-to-trend increase. (The Fed kept the interest rate at zero from late 2008 until December 2015.)

Not a linear trend, this time. Excel calls this one a second order polynomial.

I find it interesting that this Trump-years-sans-Covid trend line fits so well with the Obama-years data back to 2013 or before -- and also runs close to the gray data since early 2022. This suggests to me that, Covid shock aside, the rate of unemployment was all very much part of a pattern that had little or nothing to do with Donald Trump.

I note that the monthly unemployment rate hung in there at 3.6 percent from October 2019 to January 2020, then fell to 3.5 percent before skyrocketing in March as Covid made itself known. I figure the Covid shock to unemployment came to an end in March 2022 when unemployment again reached 3.6 percent.

That same month, March 2022, also happens to be when the Fed started raising the interest rate to fight the inflation that Jerome Powell had warned us about a year before, in March 2021. So it looks like the Fed was waiting for employment to get back to normal before they started raising interest rates. And in fact that is what they said they would do. In the transcript of the March 17, 2021 press conference, Powell said:

With regard to interest rates, we continue to expect it will be appropriate to maintain the current 0 to ¼ percent target range for the federal funds rate until labor market conditions have reached levels consistent with the Committee’s assessment of maximum employment...

(My bold.) But I'm not sure that decision was sound. Inflation went absolutely crazy between March 2021 and March 2022, while interest rates remained at zero. I think the Fed's "decision" was an excuse that Powell used because Trump had manipulated the Fed into agreeing to delay interest rate increases for a year, to let inflation go up to make Biden look bad. You know, election interference.