Powered by 
In this week’s Grumpy Economist Weekly Rant, John Cochrane examines why affordability remains a concern despite rising real wages and slowing inflation. Since January 2021, consumer prices have increased by 27% —14% more than they would have under steady 2 percent inflation. Cochrane argues that slowing inflation does not reverse past price increases, leaving Americans facing permanently higher prices.
Cochrane challenges the Federal Reserve’s interpretation of its price stability mandate, arguing that Congress and the Fed should reconsider whether a 2% annual inflation target delivers genuine price stability. Drawing on historical examples and technological advances, he makes the case that stable or gradually declining prices can coexist with strong economic growth.
Transcript
Hi. I’m John Cochrane, senior fellow here at the Hoover Institution, and welcome to my Grumpy Economist Weekly Rant.
Today, I’m gonna rant a little bit more about affordability. It all does seem a little petulant. America’s standard of living is greater than that of any large country, and way better than ever in the past. We earn, on average, 40% more than Europeans, British, Japanese, and Canadians. Poverty just hit an all-time low, health indicators hit an all-time high, and inequality’s falling. Yeah, some things have gotten more expensive, but other things are cheaper. Real wages, after accounting for inflation, are rising. What is everybody complaining about?
Well, the level of prices, as measured by the Consumer Price Index, is 27% higher than it was just before inflation hit in January 2021. And it’s 14% higher than it would have been had inflation been 2% that whole time. Though average real wages have largely kept up with inflation, that’s not true for everyone.
Many people who got new jobs got raises, but many people in old jobs didn’t. People on fixed incomes or who want to buy houses or stocks are worse off. Inflation creates a lot of churn. Anyone who held government bonds lost about 14% due to inflation.
People hate inflation. People hate higher prices. You can lecture them all you want about real wages and transitory and so forth, but people hate inflation. That ought to be an important lesson.
Now, to the Fed. Congress gave the Federal Reserve a price stability mandate. The Fed interpreted that mandate to mean 2% inflation forever. Prices should double about every 15 years. And even that 2% is only a forward-looking aspiration. The Fed lets bygones be bygones. If inflation hits 10%, as it did in 2022, the Fed doesn’t try to run lower than 2% for a while or even slight deflation.
The Fed feels no obligation to hit 2% as a long-run average, balancing periods greater than 2% with periods less than 2%. The Fed doesn’t even think of trying to bring the level of prices back to where they were and where people seem to want them. Even so-called transitory inflation means permanently higher prices.
But us, the peasants with the pitchforks, were really mad about those permanently higher prices. So I think the Fed and Congress should listen to that. What did Congress really mean by price stability?
An originalist economist would say, “Well, Congress meant a long-run steady level of prices, as had been the case for about 200 years.” Congress should clarify: “Uh, when we said price stability, we meant price stability.” If not, at least we can define a 2% target as a long-run average, and the Fed should correct its misses. Many inflation-targeting countries already do that.
Now, is a desire for price stability economically illiterate? Well, I think not.
When I mentioned this idea, a prominent central banker dismissed it immediately. “Oh, John, nobody,” the central banker said, “would induce a recession just to bring down the level of prices. Let sleeping dogs lie.”
But I don’t think that’s true. That’s pure Phillips curve thinking, that the only way to lower inflation is via high unemployment. Now, yes, unexpected deflations are associated with recessions, though causality might go the other way too. But if everybody knows the Fed is committed, with Congress’s backing, indeed legally bound, to slowly bring prices back to their previous level or inflation back to a long-term average, then they can fit that expectation in their plans.
The expected inflation term of the Phillips curve can move, not just the unemployment term. Supply- and technology-induced deflation, goods getting cheaper as wages stay the same, is wonderful.
We’ve seen that in electronics, and AI may bring it back more widely. In the 19th century, the US had a slow, steady deflation as it brought greenbacks back to gold parity, and it was a period of strong growth. I mean, yeah, there were some banking panics, but that’s another issue.
I don’t think we need to fear steady prices. The people want steady prices. In this case, I think they have some centuries-old wisdom that the Fed and Congress, which gives the Fed its mandate, might want to remember.
Thanks for listening. And if you like my Weekly Rant, please click to subscribe.
John H. Cochrane is the Rose-Marie and Jack Anderson Senior Fellow of the Hoover Institution at Stanford University. An economist specializing in financial economics and macroeconomics, he is the author of The Fiscal Theory of the Price Level. He also authors a popular Substack called The Grumpy Economist.