Inflation Still High And Biden’s Policies Are Not Helping
Inflation is up 8.5% since this time last year according to this morning’s CPI report. Economists expected the CPI to increase by 8.7%. Continued high inflation is lowering real earnings and undermining consumer confidence. The Federal Reserve has the biggest role to play in combatting high inflation, but better economic policies from President Biden and Congress would help.
Inflation is fundamentally a problem of too much money chasing too few goods. The Federal Reserve controls the money supply, so it is ultimately responsible for the long-term path of inflation. Right now the economy is sending the Fed mixed signals: The latest jobs report shows the economy created 528,000 new jobs in July, but real GDP declined the last two quarters, which typically signals a recession. Labor productivity also fell each of the past two quarters, which is another sign of slower economic growth.
The declines in real GDP and labor productivity are troubling, but the strong job growth and historically low unemployment rate of 3.5% make it likely that Fed officials will increase their interest rate target at their September meeting by at least another 75 basis points to try to slow consumer demand.
Pushing interest rates up to reduce overall demand is how the Fed addresses inflation, but there is another side of the economy that Biden and Congress could address—the supply side. Since inflation is the result of too much money chasing too few goods, both decreasing the money supply and increasing production of goods and services slow inflation.
The Democrats claim their reconciliation bill, the Inflation Reduction Act (IRA), will slow inflation, but this is unlikely. As I wrote previously, the bill’s health care and green energy subsidies and tax credits are more likely to increase prices than decrease them since nothing in the bill makes it easier to actually produce more health care or green energy. Supply needs to outpace demand for prices to come down, but the IRA encourages the opposite.
The other supposed inflation “cure” in the IRA, price controls for drugs, would just hide costs from consumers since price controls do not change the underlying cost of producing, marketing, or selling drugs. Price controls also reduce the profit incentive that drives innovation, and research shows that the IRA’s price controls would lead to fewer new drugs coming to market.
Instead of the gimmicks in the IRA, the Biden administration could pass real reforms that would boost supply and encourage saving. Energy costs are one of the biggest drivers of inflation, as shown in the figure below.
As part of the IRA deal, Senator Joe Manchin was reportedly promised that permitting reform would be addressed in a later bill. But permitting reform—not the IRA—is what we need now.
Permitting reforms that reduce the amount of red tape energy producers face would lower production costs throughout the economy and ultimately lead to lower consumer prices. Reforms to NEPA, geothermal permitting, and the Nuclear Regulatory Commission that make it easier to build new energy facilities and pipelines would expand the supply of energy. The Biden administration should also allow more permitting on federal lands to boost fossil fuel production in the long run so that energy inflation is less likely to strike again.
Permitting reform is also important for battery production, a key pillar of Biden’s energy plan. Making batteries requires large amounts of nickel, lithium, and cobalt and a recent report from the International Energy Agency estimates that the world needs 50 more lithium mines, 60 more nickel mines, and 17 more cobalt mines to meet Biden’s and other national leaders’ (albeit completely unrealistic) energy goals. Federal applications to mine and federal mine approvals, however, have fallen sharply over the last decade, as shown below. Simplifying permitting for mines is another way to boost energy production.
To encourage saving and slow spending, Congress could raise the 401K and IRA contribution limits for one year. Many Americans do not have enough money saved for retirement so encouraging additional saving is a good policy idea. Greater personal savings would also decrease people’s reliance on the underfunded Social Security system that is badly in need of its own reforms.
President Biden should also revoke his tariffs on steel and other goods that are ultimately passed on to U.S. consumers in the form of higher prices. Research from the Peterson Institute finds that trade liberalization would deliver a one-time reduction in the CPI of 1.3 percentage points, resulting in a gain of about $797 for each U.S. household.
The Fed is primarily responsible for lowering inflation, but there is no good reason President Biden and Congress cannot help. The IRA will not deliver the inflation relief we need, but other policies that eliminate red tape, encourage saving, and promote international trade would help bring prices down.