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The way to fight inflation without rising interest rates and a recession

History shows targeted price caps work when accompanied by a public campaign.

A customer places items on a conveyor belt at a checkout counter at Harmons Grocery store in Salt Lake City in 2021. (George Frey/Bloomberg News)

Inflation and the looming danger of a recession are the most urgent economic and political issues of our day, driven by price explosions in essential goods like energy and food. But the Federal Reserve, despite its responsibility for price stability, has no tools to contain these skyrocketing prices. Instead the Fed has already repeatedly hiked interest rates. Yet even as inflation appears like it might be starting to ebb, the future trajectory remains highly uncertain in the context of war abroad and a global pandemic.

Renewed rate hikes, however, risk spurring a recession and present a serious political danger in our sharply polarized society. A recession would further hurt those who have suffered most from both the covid-19 pandemic and inflation.

But there is an alternative to causing them more misery and pushing down wages. Instead Congress can stabilize prices and reduce inflationary pressures through selective price caps combined with investments to increase the resilience of our economy. The Inflation Reduction Act is a momentous step in the right direction. Carefully selected caps could buy time for the important supply-side measures in the legislation to come into effect, while also tackling short-term price spurts driven by today’s emergency conditions. Doing so would preserve purchasing power instead of erasing it and can create an economic environment that encourages urgently needed investments — public and private alike — in workers, care, education, infrastructure, climate mitigation and more.

Many economists warn that price controls never work. But history says that’s not true. Targeted controls combined with large-scale investments present a real alternative to the potent sort of stagflation — high inflation and a stagnant economy — that wreaked havoc in the 1970s and threatens us now.

While price controls have a bad reputation politically and a record of mixed success, they worked in one of the most important cases in American history — World War II. And the differences between that case and later failures reveal how policymakers can wield this tool effectively.

As the world descended into global conflict, President Franklin D. Roosevelt made the case that the United States had to serve as “the arsenal of democracy.” To keep American factories operating at capacity, and American workers productive, the government needed to keep a lid on inflation. If the cost of living rose too high, it might trigger strikes that would cripple output.

Roosevelt’s administration responded by imposing price ceilings across-the-board, with particular attention focused on sectors that contributed most to inflation and were vital to the global crusade for freedom. For meat and fuel, for example, consumers received ration coupons that ensured a fair supply at controlled prices.

This special focus on the most critical sectors for the war effort was one of the four ingredients of Roosevelt’s successful use of price limitations.

To bolster this emergency price stabilization, the president also deployed his powerful oratory skills to offer a clear and present rationale for government price setting. As totalitarian tyrants terrorized the world, “General Max” — short for the general maximum regulation act that set price ceilings — linked this domestic economic campaign to the successful defense of democracy on the battlefield. Not everyone could fight enemies abroad, but all could contribute to stabilizing the economy at home — by ensuring compliance and participation in what Roosevelt called “equality of sacrifice.”

Additionally, government boards presented a clear way to determine what was “excessive.” Each company, shopkeeper, landlord or butcher was entitled to make a profit but not to profiteering. They had to “hold the line,” sticking to the same profit margins as before price controls went into effect and obeying ceiling prices on specific goods.

Finally, consumers, as much as the government, served as the shock troops of enforcement. It was up to each housewife not to pay more than ceiling prices, distributed on government-printed shopping lists, in at least 14 different languages. If they spotted a violation, they could report the profiteer to a local volunteer board and he would have to pay a fine.

The result was a total success. Price controls not only kept inflation down but the economy boomed, and those at the bottom benefited most, with the greatest income gains. By the end of the war, the lowest two-thirds of the population was eating more meat, not less, than they had before the conflict began.

When the government abruptly ended price controls after the war against the best advice of top economists, prices shot up.

A generation later, under President Richard M. Nixon, inflation again reared its ugly head. Spending on the Vietnam War, oil shocks and food cost hikes had prices skyrocketing. Once again, a president imposed price controls — and initially they worked. But there was a crucial difference. The cynical Nixon only used price limits because he wanted to get inflation under control so that he could prime the pump before his 1972 reelection campaign. He understood that nothing else he could do would be more popular.

But since Nixon’s motives were more political than anything else, he never embarked on an accompanying social mobilization like the one that had been so successful during World War II. Driven by an international oil shock, prices at the pump kept soaring. Without the same kind of commitment to fairness, consumers got “rationing by inconvenience” — the only way to get gas was to wait on mile-long lines.

While World War II controls inspired confidence in political leaders, the ineffective 1970s controls undermined faith in government. Once the Nixon White House turned mandatory controls into voluntary commitments, they quickly faltered and prices shot back up.

The key to price stabilization, then, lies in politics: a strong alliance and a broad-based social commitment are crucial for the effective implementation of selective controls as a way to tamp down inflation.

The damage done by the price shocks in 2022 makes this combination possible because it’s hurting consumers as well as powerful corporations such as Walmart, that have built their business models on low-cost consumer goods. This creates an unlikely opportunity for a broad alliance to push for a political effort to stabilize the prices of essentials.

History shows that such a push can drive policymakers to action, and their efforts, in turn, can succeed.

Yet the past also teaches that price stabilization needs to be tailored to the conditions of specific markets — as Roosevelt did during World War II. This requires careful plans and monitoring for the fuel, food and housing markets driving inflation in 2022.

Where markets are global, internationally coordinated measures are most likely to be successful. Nonetheless, as the world’s most powerful economy, U.S. initiatives to stabilize the essential prices of food and fuel, including the Biden-led effort to form a buyers’ cartel for oil, could have large implications for global markets.

Even as prices at the pump are falling in the United States, the global energy crisis is far from over and will continue as long as Russian President Vladimir Putin persists in weaponizing food and fuel in his war against Ukraine. Meanwhile, Europe is scrambling to design gas saving plans and preparing for possible shortages in the winter. Stabilizing essential prices would also ease the pressures on less prosperous developing nations, many of which are already at the brink of severe debt crises.

Americans haven’t experienced such price spikes in more than four decades — younger Americans never have. But the overlapping and ongoing emergencies of climate change, covid-19 and geopolitical tensions mean that price shocks probably will be regular features for the near future and we need to be able to address them.

That necessitates devising policy tools that, unlike interest rate hikes or spending cuts, don’t push down the entire economy. Such austerity measures make addressing the root causes of price shocks harder. Increasing interest rates, for example, makes necessary investments for climate change mitigation and resilience against extreme weather shocks more expensive. Passage of the Inflation Reduction Act this week indicates that Democrats get this reality. Even more encouraging, Rep. Jamaal Bowman (D-N.Y.) introduced the Emergency Price Stabilization Act, which envisions the creation of authority to rein in price shocks.

Our age of emergencies requires an economics of disaster preparedness. Targeted price stabilization is an essential ingredient to weather the storms ahead and to realize the investments so urgently needed.

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