A Government can always stop inflation at a sufficiently high cost in slow economic growth, bankruptcies and rising unemployment. No one doubts that. But is it possible to stop inflation without paying that price? The Reagan administration argues vigorously that it can be done, and that assertion is central to its whole strategy -- its scenario, to use the current term. As contributions to this debate, the National Bureau of Economic Research, a rigorously academic organization, is circulating a couple of highly interesting, and sharply differing, papers surveying past experience.
The German hyperinflation of 1923, in which the value of the currency fell almost to zero, is awakening a good deal of uneasy recollection in this country. Thomas J. Sargent of the Federal Reserve Bank of Minneapolis provides an account of the way in which it ended. The crucial change, in his view, was a convincing demonstration by the government that it was balancing its budget and ceasing to borrow. A sudden change in public expectations, he argues, will result in a sudden change in inflationary behavior.
Fair enough -- but the collaspe of a currency is a stark national disaster, and it wasn't only the newly balanced budget that changed expectations in Germany. In the aftermath of the 1923 inflation, all contracts and debts were void. All inflation adjustments were meaningless. The modern American economy, in contrast, is now running on written agreements that increasingly index payments to price averages, transmitting past inflation into the future.
That structure of indexation and cost-of-living clauses slows down any adjustment to lower inflation rates. Robert J. Gordon of Northwestern University oberves that in this country, over the past half-century, inflation has hardly ever fallen when the economy was expanding strongly. The few exceptions were generally times of mandatory wage and price controls. The Reagan plan foresees a steady drop of inflation from 1982 onward through four years of unusually rapid growth. The Gordon paper is a warning that it has never happened here before.
What about other countries? The case of Switzerland is frequently cited. After a spasm of high inflation in the early 1970s, the Swiss imposed a ferocious monetary squeeze and within a couple of years the inflation rate was negligible. A triumph of expectations? Maybe, but there was also an extremely long and deep recession, politically tolerable only because most of the people who lost their jobs were foreign workers who couldn't vote in Switzerland. Elsewhere, patterns vary and a few minor exceptions have occurred, but the rule generally applies: You don't get lower inflation and higher growth together.
Expectations clearly make a difference, and the American inflation may depart from the historical pattern if Mr. Reagan succeeds in changing people's sense of the future. But his scenario lies far beyond the limits of any past experience in this country or any other industrial democracy. Getting inflation down is necessary, but it is harmful for politicians to suggest that it will be costless.
In the 1960s, to win support for the social reforms of the Great Society, Lyndon Johnson's administration grossly oversold their promise. The result was, within a very few years, a corrosive and damaging backwash of cynicism and disillusionment. That's a precedent for the Reagan administration, in its passion for economic reform, to consider with care.