Federal Reserve Member Bullard: If America Abandons 2% Inflation Target, It’s Headed To 1970s-Style High Inflation

Federal Reserve Member Bullard: If America Abandons 2% Inflation Target, It’s Headed To 1970s-Style High Inflation

1970s inflation

Cars line up at a gas station in New York City, Dec. 23, 1973. The 1970s was a period defined by devastating double-digit inflation, requiring drastic action from the Federal Reserve. Marty Lederhandler/AP

For the past 18 months, Americans have been hit with the highest yearly price increases in 40 years along with warnings that the economy could go into recession and predictions that high inflation may be here to stay.

“Through it all, we’ve heard an almost mantra-like refrain from the Federal Reserve: We’re still not close to 2 percent inflation,” Santul Nerkar wrote for FiveThirtyEight, a website that focuses on opinion poll analysis, politics, economics, and sports blogging.

During a presentation to the Greater St. Louis Inc., Federal Reserve Bank of St. Louis President James Bullard cautioned against the Fed abandoning the 2 percent inflation mandate.

If it did, “we would be back to the 1970s” Bullard said during a video provided by Bloomberg.

“We need to find stable prices at a 2 percent inflation — that’s an international standard that was developed in the 1990s. I think it would be a disaster to abandon that standard,” Bullard said.

Such a move “would set all the other countries to abandon their standards and we’d be back to the 1970s so we don’t want to do that. We wanted to stick to our 2 percent goal,” Bullard said.

The Fed’s 2 percent inflation goal is completely arbitrary, Santul wrote. The 2 percent inflation target was adopted by the U.S. in 2012 when Fed Chairman Ben Bernanke decided to fall in line with central banks in the rest of the developed world.

The Fed has a stated dual mandate of price stability and maximum employment.

 “But why does the target have to be 2%? Why not 3%? Or even zero?” asked Veronika Dolar, an assistant professor of economics at Suny Old Westbury.

Until recently, the problem “wasn’t that inflation was too high—it was that it was too low,” Dolar wrote in a Dec. 12 column for Fortune. “That prompted (Fed Chairman Jerome) Powell in 2020, when inflation was barely more than 1%, to call this a cause for concern and say the Fed would let it rise above 2%.”

In his research, Laurence Ball, a professor of economics at Johns Hopkins University, found that, under certain conditions, a higher inflation target can actually improve economic stability

Ball said he expects the Fed to continue to raise interest rates to bring down inflation, under the presumption of getting down to the 2 percent target eventually. But he doesn’t rule out the possibility that the bank could secretly choose to adopt a de facto 4 percent inflation rate.

From 1970 to 1981, the average inflation rate in the U.S. was nearly 8 percent per year — a period that became known as the Great Inflation. During that time there were four recessions. Oil prices went from $2 a barrel in 1970 to $34 a barrel by 1981 — a 17-fold increase. There were gas quotas and crippling lines at gas stations.

Paul Volcker took over as Fed Chairman in 1979 and decided enough was enough.

Volcker felt that getting inflation under control was more important than jobs. He raised the Federal funds rate — currently in a target range of 4.75-5 percent — from 10 percent to more than 20 percent. Volcker is blamed for causing two recessions in three years and sending the unemployment rate to double digits.

There are some fears that the economy of the 2020s is setting up for a repeat of 1970s-style inflation, according to Ben Carlson, who manages portfolios at Ritholtz Wealth Management LLC. “I don’t agree with the idea … but there are some similarities,” Carlson wrote in the blog, A Wealth Of Common Sense.

For example, both periods saw heavy government spending and an increase in the money supply. Both periods experienced food and energy shortages and both saw rapid wage growth.

“Fed officials have studied that period and the mistakes made by their predecessors,” Carlson wrote. “Our knowledge of the 1970s and the scars that it left will be one of the biggest reasons we won’t have a replay of that outcome.”