Peter Hooper is managing director and chief economist for Deutsche Bank Securities in New York.
The Federal Reserve has an extremely challenging task at hand. With price inflation on the rise and a tight labor market, the central bank must now navigate the economy away from overheating and land it in a sweet spot of full employment and price stability.
But the Fed has never been able to achieve such a soft landing. Every time it has attempted the feat, we’ve fallen into a recession — the severity of which corresponds with how much the economy overheated.
And yet, the Trump administration doesn’t seem concerned about this. It has taken at least six actions that have either actually or potentially boosted inflationary pressures. As a result, it has risked making our next economic downturn more severe.
First, the president signed into law massively procyclical tax-cut and spending packages for the first time in five decades. Based in part on calculations provided by the Congressional Budget Office, these measures will add, conservatively, half a percentage point to gross domestic product growth on average this year and next. This will push the unemployment rate at least another half a percentage point further below the non-accelerating inflation rate of unemployment (better known as NAIRU, or in oversimplified terms, full employment). Historical experience — and recent evidence at the state level — indicates that the further unemployment drops below NAIRU, the higher wages and price inflation go up.
Second, the administration declared a weak-dollar policy good for America, arguing that it is good for trade. But it doesn’t acknowledge how a weak dollar would affect inflation. Thanks to a firm dollar over the past few years, import prices fell, holding inflation for U.S. goods in mildly negative territory and depressing overall inflation. But now, thanks to a weakening dollar, import prices are rising at a significant pace and will soon push the price of domestic goods upward.
Third, the regulatory rollback of significant portions of the Affordable Care Act will effectively increase the number of people not covered by health insurance. When an uninsured person needs care and cannot afford it, the hospital picks up the tab. This is important because hospital costs account for nearly half of overall health-care costs, which in turn accounts for one-fifth of core consumer price inflation.
Before the ACA, hospital inflation generally averaged above 4 percent as hospitals raised fees to cover the cost of uninsured patients. Post-ACA, with increased insurance coverage, hospital inflation fell below 2 percent , contributing to low inflation overall. But in the past six months — as Republicans attempted to roll back the ACA — hospital inflation has soared to an annual rate of 6 percent.
Fourth, the administration has imposed tariffs on steel and aluminum, and threatened tariffs on automobiles and imports from China. Broader tariffs on China could add several tenths of a percent to U.S. consumer prices. And while the metal tariffs were projected to not have as much of an effect, anecdotal reports suggest producers not covered by the tariffs are using them as cover to raise prices. A recent Fed Beige Book noted that no fewer than nine of the 12 Federal Reserve districts reported problems with the steel tariffs, often in the form of price increases.
Fifth, the administration has taken actions in the tech sector that might raise prices for consumers. The Federal Communications Commission repealed net neutrality rules, which required Internet service providers to offer equal access for all users to all Internet content. While the new rules have yet to go into effect, service providers may increase user costs by selling access to higher quality service to both browsers and vendors on the Web. More recently, President Trump tweeted his concerns about Amazon’s tax payments and use of the U.S. Postal Service. Actions taken to raise Amazon’s delivery costs or otherwise clip its wings could have an inflationary impact. And that’s not negligible: Amazon’s entry into various markets for consumer goods has tended to depress the prices of those goods. Jeffrey P. Bezos, the founder and chief executive of Amazon, also owns The Post.
Finally, by withdrawing from the nuclear agreement with Iran and toughening economic sanctions against that country, the administration has effectively cut global oil production and boosted oil prices. The effects are already being felt in prices at the pump.
Taken together, these actions could add up to the spark that ignites a surge of inflation. This has happened before: Inflation remained remarkably low into the mid-1960s as unemployment moved further below NAIRU. But passage of Medicare and Medicaid during the last bout of significantly procyclical fiscal policy led to a surge in health-care inflation. Coupled with excessively easy monetary policy, price inflation took off.
Of course, the Fed has learned from its mistakes and is not about to repeat them. But every time the administration does something to boost inflation, the Fed will have to respond with more action to cool the economy. Despite the administration’s intentions, it might end up doing more to hurt the economy than to help it.