Editor’s Pick

Joseph E. Stiglitz, Nobel prize in economics, at the École Polytechnique. 2019

To be free, I must be able to make and keep voluntary agreements. The central problem with the Hobbesian “state of nature” is precisely that each person has “too much liberty,” precisely because no contract, promise, or right to property can be relied on. Such “enforcement” of agreements is not coercive, but is literally required for the liberty to engage in commerce and division of labor.

Likewise, people living in society need to be able to make and keep voluntary collective agreements, at scale, and at low cost. We’ll drive on the right, we’ll have a speed limit of 45 mph on this road, and 70 mph on that road. To provide for local defense and security we’ll have a police force, with a rule for contributions to finance the employees. These agents of ours are literally called a “force,” because the use of force is consented for, and contracted by, the citizens.

Further, to provide for reliable and disinterested resolution of disputes over contracts, torts, and rule violations, we’ll have a court system; the judges’ pay will be independent of their findings in the cases they hear and decide.

All of these things are obviously necessary for anything remotely approaching “freedom” to be enjoyed by citizens. The rights and the public services do not originate with “the state,” but are the product of the recognition of citizens that order and predictability, including the right to consent to be subject to “force” if the rules are violated, are necessary for a republic to function and thrive.

This notion of “emergent order,” or “spontaneous order,” with its web of binding agreements and organized social structures, lies at the very heart of the argument for capitalism. The need for such order has been recognized since (at least) the Scottish Enlightenment, when David Hume, Adam Smith, Adam Ferguson, and Dugald Stewart laid out the intellectual foundations of a system of propriety and property rights that create a context where commercial activity creates wealth and elaborates the division of labor.

What does any of this have to do with Joseph Stiglitz’s book, The Road to Freedom? Almost nothing, it seems, and that’s a big problem. Stiglitz wants to argue — actually, it’s simply an unsupported assertion — that no one who advocates for commerce and markets ever thought about the problem of rules.

Such a claim would hardly be surprising among the superficial polemicists — Naomi Klein, Zephyr Teachout, or Thomas Friedman, for example — who make no pretense of being intellectually serious. When otherwise competent and able scholars ignore the tradition of emergent order, however, it is harder to explain. I am thinking, in particular, of two Nobel prize-winning economists, Joseph Stiglitz (2001 prize), and Paul Krugman (2008). Let me be clear at the outset: both Stiglitz and Krugman far exceed me in intellect, and in ability as economists. When I read their work as professionals, I am consistently impressed, and informed. Stiglitz’s work on public finance and asymmetric information, and Krugman’s work on international trade and regulation, are insightful and of considerable importance in the discipline.

Neither Krugman nor Stiglitz is doing this for the money, at this point in their careers; instead, they are proving Adam Smith’s famous claim that celebrities, once they have tasted fame, become addicted and are willing to commit increasingly egregious intellectual indignities to retain the favor of the frivolous.

Smith describes the problem clearly, in The Theory of Moral Sentiments, Book I, Chapter 3:

In the middling and inferior stations of life, the road to virtue and that to fortune, to such fortune, at least, as men in such stations can reasonably expect to acquire, are, happily in most cases, very nearly the same. In all the middling and inferior professions, real and solid professional abilities, joined to prudent, just, firm, and temperate conduct, can very seldom fail of success…

In the superior stations of life the case is unhappily not always the same. In the courts of princes, in the drawing-rooms of the great, where success and preferment depend, not upon the esteem of intelligent and well-informed equals, but upon the fanciful and foolish favour of ignorant, presumptuous, and proud superiors; flattery and falsehood too often prevail over merit and abilities. In such societies the abilities to please, are more regarded than the abilities to serve.

Let there be no doubt. Joseph Stiglitz rose through genuine achievement. But that makes the psychological need to stay “at the top” almost more tragic. The need to be seen as a policy shaman by the politically powerful can overwhelm even the wise.

Still, after allowing for the seductions of fame, it is hard to explain The Road to Freedom. The book reads more like extended performance art than an academic work, or even a serious trade book. At the outset, in the Preface, we are told that “The Right in the United States seized on the rhetoric of freedom several decades ago, claiming it as their own just as they claimed patriotism and the American flag as their own” (emphasis added).  

One might answer, of course, that patriotism and the American flag were hidden well back in the Left’s closet, unused, so the Right’s “seizing” of them was uncontested. But is it remotely plausible to believe that the Right seized only the rhetoric of freedom, and that this innovation was only “several decades ago”?

It is the nature of conservatism to seek to conserve, focusing especially on traditions and customs, as well as the rule of law and order. Conservatism in the US has a very different tradition to “conserve,” compared to the Right in Europe or South America. Whereas conservatives in other countries see themselves as stewards of religious tradition, or nationalism, or a sense of racial and cultural unity with the past, conservatives in the US center the Founding: the creation of doctrines and norms that erect a constitutional scaffolding to support liberalism. More simply, America is the only nation with a classical liberal tradition to conserve; for that reason, conservatives in the US have deployed the “rhetoric of liberty” to defend actual liberty. And they have been offering up that defense for something closer to several centuries than “several decades.”

Now, Stiglitz does give examples of “great thinkers” on the right who fit his story. These include George W. Bush, Rick Santorum, and Ted Cruz. I’m not making that up, friends: Joseph Stiglitz wants us to abandon property rights and commerce because Bush, Santorum, and Cruz were unable to offer coherent defenses of capitalism.

Eventually, Stiglitz does get around to considering the more serious arguments of actual intellectuals, the first team of the defenders of classical liberalism.  But here is an example of the level of his consideration: “Hayek and Friedman were the most notable mid-twentieth-century defenders of unfettered capitalism” (emphasis added).

I hope the reader can now forgive the extended introduction, describing the emergent order of a society in which commerce is embedded. Calling this “unfettered” is simply inaccurate, conceptually. It is also grossly inaccurate empirically, in the sense that the phrase “unfettered capitalism” literally never appeared, not once, in the writing of either Hayek or Friedman. No one argues for unfettered capitalism, because “fetters” are necessary for commercial transactions to be possible. I need the liberty to make a credible commitment, metaphorically binding myself to the mast much as Odysseus bid his men bind him to the mast in a physical sense. The ability to fetter ourselves is in fact the essence of living in society.

As early as 1944, in The Road to Serfdom — the book Stiglitz presumably believes he is demolishing with his current polemic — Hayek laid out the general rules, the social “fetters” that make a liberal order possible. He is clear about this at several points, but it is impossible to read pages 85-88, in particular, and think that Hayek advocated for anything remotely like “unfettered” anything. A liberal order requires, and at same time supports, the “Rule of Law,” the core goal of a liberal society. Hayek is not even advocating for capitalism per se, but is trying to argue for a liberal society, of which (in his view) capitalism is an important component.

Later, in The Constitution of Liberty, Hayek was quite clear about the need for guard rails and rules to guide commercial activity:

It is the character rather than the volume of government activity that is important. A functioning market economy presupposes certain activities on the part of the state; there are some other such activities by which its functioning will be assisted; and it can tolerate many more, provided that they are of the kind which are compatible with a functioning market. But there are those which run counter to the very principle on which a free system rests and which must therefore be altogether excluded if such a system is to work.

This is the heart of the matter, the point on which the argument turns. In my view, it is the point on which Hayek wins, and Stiglitz loses, but I may have that wrong. Still, this question of “the character rather than the volume of government activity” is the core aspect of the disagreement.

For Stiglitz, and for the Cambridges (both the one in the UK and the one in Massachusetts), “regulation” is a homogeneous commodity, a “good” in economic terms. It is optimized by passing through the political process where it is vetted by a priestly class of shamans, the smartest people in the world (those turn out to be Stiglitz, and the people from the Cambridges; who would have expected that?). More regulation is always better; it then follows that opposition to any new or existing regulation must be bad, simply by definition.

Opposed to this view are Hayek and Friedman, and classical liberals like me. We favor the rule of law, general principles that limit what the state can do, even if in a utilitarian sense it is “for the common good,” as conceived by the self-appointed genius-shamans. An implication is that regulation is far from homogeneous, and must be considered on a case-by-case basis. Any regulation that violates property rights, or distorts price signals, should be questioned, and if on examination it is found wanting that regulation must be removed. As Hayek said, “It is the character rather than the volume of government activity that is important.”

And that is the implication that threatens the foundation of the entire Stiglitzian enterprise. No one is arguing for unfettered capitalism. Arguments for deregulation are based on the specific claim that a rule or regulation is blocking mutually beneficial exchanges, or distorting the information signals in prices, and so that particular regulation should be removed.

It is Stiglitz and his apostles who want an unfettering…of the state apparatus of coercion! Rule of law, property rights, and a presumption in favor of consumer welfare in antitrust are all impediments to the shamans leading us to a better world. The constitution must be suspended; the ability of corporations to defend themselves using campaign spending must be curtailed, and information that contradicts the “scientific” claims of the shamans must be censored, again for the common good. All of the constitutional fetters that prevent the expansion of regulations, and the powers of the administrative state, must be swept away.

After achieving what he calls “progressive capitalism” revolution in which the state is unfettered, Stiglitz imagines that prosperity will be restored, on a broad scale. To be clear, he himself defines “progressive capitalism” as “rejuvenated social democracy,” a breathtaking change in direction from commercial society to a system where decisions of allocation and income are made by political majorities, filtered through an unelected elite. The road to this new system has three animating factors: the refocusing on a “liberal education,” the unfettering of the power of majorities to redistribute income and property, and the abandonment of the myth of “American exceptionalism.”

It is important to give some flavor of the tone of Stiglitz’s analysis here. He believes “education” should be explicitly designed to attack property rights and to weaken the sense of American exceptionalism, the tradition of classical liberalism embodied in the founding documents. He concludes:

This is why people in favor of continuing current norms (such as restricted gender roles or primacy of markets) regardless of the merits fight so strongly against a liberal education. 

After reading that sentence, I had to put the book down and go for a walk for a few minutes. Throughout my career in academia, teaching at Dartmouth, University of Texas, University of North Carolina, and now nearly three decades at Duke, I have always advocated for liberal arts education. I have been called a conservative, a right-winger, and much worse things, precisely because I advocate for the liberal arts to give students an appreciation of commerce, and a skepticism about a naïve faith in the coercive powers of the state.

But for Stiglitz, there is only one, homogeneous, unwashed and uneducated “The Right,” and it makes sense to lump together the opposition to education, the support of gender segregation, and a rock-ribbed advocacy of commerce. It is hard to take seriously such a superficial and tendentious screed.

Senator Ron Wyden (D-OR) stands to record a joint video address. 2017.

Inflation is the surest way to trigger a Pavlovian response from politicians, whereby they blame monopolists, middlemen, greedy entrepreneurs, profiteers, and price gougers. In 1793, French Revolutionaries fueled inflation by running persistent deficits that they monetized. Their response was to instill fear — courtesy of the guillotine — by blaming productive French citizens for being greedy. Luckily, the guillotine has long been ditched, but the common tropes used by the Biden administration and its allied members of Congress to deflect blame for inflation have not. 

While the money supply has increased by more than 30 percent since 2020, and the Federal government deficit is above 5 percent of national income with no end in sight, Democrats have preferred to blame the private sector. Their most recent target is RealPage, a US software provider that analyzes supply and demand dynamics in the rental real estate market to help landlords price their properties. President Biden went so far as to say “we’re cracking down on big landlords who break antitrust laws by price-fixing and driving up rents.” Sen. Ron Wyden (D-OR) and nine Democratic co-sponsors introduced the Preventing the Algorithmic Facilitation of Rental Housing Cartels Act earlier this year. This type of Advil politics, where the government attempts to treat the symptoms instead of the underlying causes of inflation, comes with costly unintended consequences. 

Without flexible pricing strategies, fluctuations in consumer demand cause inefficient excess demand or excess supply for goods and services. For instance, airfares are higher during summer and lower during the off-peak season to avoid flying empty planes. By using data to optimize their pricing strategy, airlines are able to operate at higher capacity and, therefore, at a lower cost. More recently, software and artificial intelligence developments have helped apply those revenue management methods to other sectors. For example, Uber can optimize supply and prices such that an Uber driver spends much less time without a passenger than a cab driver used to.

By providing valuable information about pricing, companies like RealPage can reduce rental vacancies. This means a greater supply available to renters and lower rents. It is certainly true that RealPage will sometimes recommend its clients raise rents if demand is sufficiently high to warrant it. Yet increasing rents in these contexts prevents demand from being more than capacity, allocates resources to clients valuing them the most, and incentivizes entrepreneurs to increase the supply of rentals.

Overall, RealPage is no different from many other companies engaged in revenue management. Take Perfect Price, which allows car rental companies to determine dynamic pricing. Or Pace, which does the same for hotels. What, then, is the problem progressives have with RealPage? 

Following a number of class-action lawsuits by renters, the Biden Justice Department is now investigating RealPage. It also opened a criminal probe into the company in March 2024. In both cases, the company is accused of facilitating collusion between landlords who collectively adopt rents set by RealPage. These arguments are unconvincing on several grounds.

First, rentals constitute a minority of the US housing market, with the rentership rate below 35 percent. This leaves little room for landlords to charge monopoly prices as it would induce many Americans to switch to homeownership. 

Second, the rental real estate market is very competitive, with individual investors owning around 40 percent of all rental units in the US. 

Third, RealPage faces competition from other real estate revenue management companies, such as Yardi. 

Finally, if revenue management companies helped fix anti-competitive prices, they would incentivize landlords to chisel by charging lower rents than advised by RealPage, thus undercutting competition from RealPage’s other clients. Instead, 90 percent of RealPage clients have adopted the company’s pricing suggestions. That is not evidence of anti-competitive behavior. 

Landlords can charge non-competitive prices only if they can restrict the market supply. If increases in rents had been driven by RealPage helping landlords charge monopoly prices since 2020, the rental vacancy rate should have increased after 2020. Instead, it declined from 6.8 percent in 2019 to 5.8 percent in 2022. This indicates that other factors, such as monetary and fiscal policies that increased overall demand for goods and services, are the likely culprits behind rent increases.

In the free market, the price system lays the cards on the table. Entrepreneurial success means lower prices; the acid of competition erodes inefficiencies. Politics, on the other hand, is the art of making market roadblocks that are unseen to the public. Imposing new costly regulations will not make housing more affordable — unleashing the housing supply by deregulating zoning and overly strict building codes will. There is still time for the players in Washington, DC to reverse course.

McKinsey & Company, consultants, signage on the facade of building.

The Wall Street Journal reported in April that the Justice Department would conduct a “criminal investigation into consulting firm McKinsey related to its past role in advising some of the nation’s largest opioid manufacturers on how to boost sales.” 

According to the WSJ report, “McKinsey consultants advised the company [Purdue] on how to increase sales of its flagship drug, including suggesting that Purdue’s sales team make more calls to healthcare providers it knew wrote high volumes of OxyContin prescriptions and spend less time on doctors who prescribed the opioid medication the least, the records showed.” 

Imagine that. McKinsey allegedly tried to help Purdue tailor its sales efforts to doctors who already prescribed oral opioid drugs. There’s nothing mysterious or nefarious about this. It is standard and economically rational. To do otherwise would be inefficient and wasteful. Some consultants do this sort of work virtually every day. The small consulting company, Objective Insights, Inc. (co-owned by one of the authors) has performed it a handful of times. 

But because OxyContin — the Food and Drug Administration-approved prescription opioid at the center of the opioid overdose epidemic — is involved, everything is suspect. The Justice Department must think we are credulous. Let’s use a common food to demonstrate the innocence of this type of analysis.  

Imagine your company is launching a new granola, and market research has shown that your product can reach a 25 percent share among all granola brands. Buoyed by this news, you put your efforts into reaching all consumers, trying to maximize sales. Then you hire the services of a consulting company, which suggests that, because you have limited resources and each customer contact is costly, you would be smarter to address customers who already purchase a lot of granola.  

It’s easier to convince existing customers to switch brands than it is to convince non-customers to start buying. 

Consider two potential customers. If the first customer never buys granola, reaching that customer means that your company would receive 25 percent of zero sales. If another customer buys one box of granola every week, your company, by reaching that customer, would sell 13 boxes a year (25 percent times 52 boxes). That second customer provides fertile ground for your company’s sales efforts. 

We can look at some old pharmaceutical data to show how this works in practice. Consider prescription data from the market for Neurontin (gabapentin), Lyrica (pregabalin), and generic gabapentin, which are generally used to treat neuropathic pain caused by diabetic neuropathy and postherpetic neuralgia. During the year covered by this data, approximately 500,000 doctors wrote a total of 33 million prescriptions for these drugs. On average, each doctor wrote 66 prescriptions. But not all doctors are average, and we can group them into ten deciles. 

Into each decile we put 3.3 million prescriptions (10 percent of the total). In the top decile were 2,400 prescribers. On average, they wrote 1,375 prescriptions, or almost 21 times the number written by the average physician.  

In decile 9 were 4,900 doctors writing 3.3 million prescriptions. Those doctors, on average, wrote 673 prescriptions, roughly half the number of the doctors in decile 10. At the bottom end, in decile 1, were 320,000 doctors who wrote, on average, 10.3 prescriptions. 

Assume that it costs the same for a company to make a sales visit to a decile-10 doctor as to visit doctors in other deciles. If the company called on an equal distribution of doctors by decile, and called on 2,400 doctors in all, then it could increase its productivity by a factor of twenty by focusing all its sales calls on the 2,400 decile 10 doctors. The total potential market would shift from 158,400 prescriptions (2,400 doctors times 66 prescriptions each) to 3.3 million prescriptions (2,400 doctors times 1,375 prescriptions each).  

If this company’s product could get 25 percent share of the prescriptions written by the doctors it called on and 0 percent share of the prescriptions of the other doctors, then this product would grow from 39,600 prescriptions (25 percent times 158,400 prescriptions) to 825,000 prescriptions (25 percent times 3.3 million). 

Simply by shifting its promotional focus from average doctors to high prescribers, the company could increase its sales by a factor of 19.8. Of course, it might make economic sense to call on a larger number of doctors — to avoid missing a substantial section of the market — and, for geographic reasons, it might make sense to skip some decile-10 doctors. Ultimately, this company might make sales calls to doctors in deciles 7 through 10, with the clear motivation to place an emphasis on the higher deciles and avoid the lower deciles. 

This type of analysis is the bread and butter of some pharmaceutical consultants.  

Is the Justice Department really going to charge McKinsey & Co. criminally for suggesting to its clients that they focus on calling on doctors who already prescribe a lot? Is economically rational analysis now illegal? And, if so, exactly what law did McKinsey break?  

What’s next. Telling consultants that they shouldn’t help granola companies find customers who like to eat granola? 

As 2025 draws near, America teeters on the brink of a fiscal abyss. This impending fiscal cliff, marked by the end of tax cut provisions and a spending crisis, calls for immediate and decisive action by Congress to avert a worse economic situation than the one Americans feel today.

The national debt from excessive government spending is on track to surpass $35 trillion soon, a stark increase of nearly $10 trillion since 2020. This level of debt per citizen exceeds $100,000; per taxpayer, it is nearly $267,000. 

Such figures are not just numbers but represent a looming burden that future generations will bear — a burden that transcends mere fiscal policy and ventures into the realm of ethical responsibility. The gravity of this debt is exacerbated by the interest payments it necessitates, which have soared to over $1 trillion annually, surpassing what the country spends on national defense. 

This situation illustrates a troubling scenario where the government, to manage its debt, resorts to issuing more debt, a practice unsustainable by any standard measure of sound budgeting. The economic repercussions of this cycle of debt are profound, leading to higher interest rates, likely increased inflation, and a misallocation of resources that stifles productive private sector activity.

Amidst these challenges, the Tax Cuts and Jobs Act (TCJA) provisions, set to expire in 2025, play a pivotal role. 

These tax cuts have been instrumental in supporting economic activity across all income brackets by reducing their tax burden. If these cuts expire, they could reverse the economic gains achieved, reducing disposable income, dampening savings and investment, and contributing to an economic downturn in an already fragile economy. 

The cessation of these benefits would particularly impact families who have benefited from the near doubling of the standard deduction and enhancements to the child tax credit. Furthermore, the expiration of the $10,000 cap on state and local tax (SALT) deductions could have mixed effects; while it may benefit taxpayers in primarily blue, high-tax states, it complicates the fiscal landscape significantly. 

A balanced approach would be to maintain the increased standard deduction while simplifying the tax code further by eliminating complex provisions like the SALT deduction and the child tax credit, promoting a flatter, more equitable tax system with one low tax rate for everyone. This would also support more economic growth that, combined with spending less, can quickly get our fiscal house in order.

This fiscal predicament is further complicated by President Biden’s commitment not to raise taxes on those earning less than $400,000 annually. This promise will be difficult to keep if the TCJA provisions expire without appropriate legislative adjustments, further imperiling his dwindling reelection hopes in November. This situation and recent tariff impositions that affect all income levels would represent a double blow to American taxpayers, dampening economic prospects.

As we face these fiscal upheavals, the discretionary spending caps and the debt ceiling, due to expire in 2025, add complexity to an already challenging budgetary environment. The US risks a severe budgetary crisis without thoughtful reform, particularly in the so-called “entitlement programs” like Social Security and Medicare, which consume a substantial portion of the federal budget. These areas must be addressed because both will be essentially bankrupt over the next decade, and millions of recipients will face substantial cuts in benefits.

Given all these challenges, fiscal and monetary rules are paramount. 

Congress should implement a fiscal rule after cutting federal spending to at least the pre-lockdown level in 2019. Implementing rules like the Sustainable American Budget, which caps federal spending based on population growth plus inflation, could provide a sustainable path forward. This approach, supported by Americans for Tax Reform along with the economic insights of Alberto Alesina and John Taylor, advocates for austerity focused on spending restraint and economic growth rather than tax hikes, as some on the “new right” have recently advocated.

Regarding a monetary rule, the Fed should return to a single mandate of price stability, cut its bloated balance sheet to at least the pre-lockdown level in 2019, and adopt a strict rule that ideally would be on the growth of its monetary base. These steps would help reduce persistent inflation and remove the extraordinary distortions throughout asset prices and the production process because of years of quantitative easing and low interest rates. 

Combining these monetary and fiscal rules would provide the necessary checks and balances to give the economy time to heal from massive government failures and help support a stronger institutional framework for economic growth and individual flourishing.

Moreover, the regulatory environment has grown increasingly burdensome under the Biden administration, with an estimated $1.6 trillion in new final rules imposed since President Biden took office through May 2024. These rules have been applied across the economy, including financial decisions based on ESG factors influencing the energy sector to increase car emission standards influencing the auto sector. But these ultimately influence producers’ and consumers’ costs of many goods and services. Removing the burden on Americans would unleash economic growth, helping with the fiscal and economic headwinds.

The bad policies out of DC have created a dire fiscal and economic situation moving into 2025. If the Trump tax cuts expire, excessive spending will continue unabated, and corrective monetary policy will not happen. Uncertainty and expectations alone will result in a hard landing in the economy, job losses, and elevated inflation. Given the last four years of declining purchasing power for millions of Americans, this result is unacceptable, and the idea of raising taxes to attempt to solve this is naive. 

Instead, the US must leverage this crisis as an opportunity for sweeping reforms. By returning to principles of fiscal responsibility and market-driven activity, America can navigate away from the fiscal abyss and toward a future of economic stability and prosperity. Though fraught with challenges, this moment offers an unparalleled chance to reshape America’s fiscal landscape, ensuring a legacy of growth and stability for future generations.

Farm workers in Uasin Gishu County, Kenya, use a tractor-powered shelling machine to process dry maize. 2017.

Phung Xuan Vu was just eight years old when he accompanied his brother to the food distribution center. His belly hurt from hunger, and he was anxious—filled with worry that he would lose his food voucher or be chastened by the officials distributing food.

“The officials were not friendly. They were bossy and had power,” Vu recalled decades later. “We felt that we had to beg for food that was rightfully ours.”

Vu’s family was poor, but not by local standards. They owned a bicycle, something not all families in Vietnam could say. Yet waiting for hours for food was difficult.

In the book The Bridge Generation of Viet Nam: Spanning Wartime to Boomtime, Vu recalled how schoolchildren, weak and thirsty, would wait hours on end in the heat for food rations only to get cheated by officials, who would mix rocks in with the rice to fool the scales.

“That made us angry, but we could not fight or argue with the officials,” Vu told authors Nancy Napier and Dau Thuy Ha. “What could we do, as children?”

How Vietnam Became the Poorest Country in the World

Vietnam is a country most people know, but for many the knowledge of its history stops in 1975 — the year Saigon fell, two years after the withdrawal of US troops.

Though President Ho Chi Minh had promised in 1969 that defeating the Americans would allow socialists “to rebuild our land ten times more beautiful,” the postwar period was marked by economic decline. Vietnam was primarily an agricultural economy, and collectivization of farming had achieved results that were little different from previous collectivization attempts by the likes of Stalin and Mao.

In its Second Five-Year Plan (1976–1980), Vietnam had set aggressive goals in annual growth rates for agriculture (8 to 10 percent). Instead, agricultural output increased by just 2 percent annually, in large part because communists had collectivized nearly 25 percent of the farms in what had been South Vietnam.

The results were catastrophic. Rainer Zitelmann, author of How Nations Escape Poverty, points out that by 1980, Vietnam, once an exporter of rice, was producing just 14 million tons of rice annually, even though it required 16 million tons to feed its own population.

Planners also instituted aggressive policies to nationalize industries in Vietnam. Though these plans initially aimed to nationalize only foreign-owned companies, they eventually expanded to encompass all enterprises in Vietnam. Price controls — particularly rent control policies, which are notoriously destructive — also played a key role in Vietnam’s economic decline.

“The Americans couldn’t destroy Hanoi,” Vietnam’s Foreign Minister Nguyen Co Thach told reporters in the late 1980s, “but we have destroyed our city by very low rents.”

The policies did great harm to Vietnam’s economy. By 1980, Vietnam was the poorest country in the world — poorer than Somalia, Ethiopia, and Madagascar — a distinction it would hold for an entire decade. Throughout the 1980s and even into the 1990s, hunger was omnipresent for many Vietnamese people. As late as 1993, 80 percent of Vietnam’s population lived in poverty.

But unlike so many countries, Vietnam did not stay poor.

Today, in one of the most remarkable stories in modern history, poverty in Vietnam stands at roughly 4 percent, according to the Asian Development Bank.

How Not to Defeat Poverty

Before exploring how Vietnam was able to escape poverty, it’s important to understand how nations do not escape poverty.

Vietnam’s story was the exception. Though other countries have made great strides in reducing poverty in recent decades, most have not.

In fact, many of the poorest countries in 2024 — Burundi, Central African Republic, the Democratic Republic of the Congo, Madagascar, Somalia, and others — were among the world’s poorest nations a quarter-century ago. These countries also tend to receive the most foreign aid (no doubt because they are so poor).

While many people — and organizations such as the United Nations — argue that foreign aid is key to alleviating poverty, others disagree.

In his 2006 book, The White Man’s Burden: Why the West’s Efforts to Aid the Rest Have Done So Much Ill and So Little Good, NYU economist William Easterly argued that decades of international aid initiatives were far better at feeding bureaucracies than alleviating poverty.

One example Easterly cited was Tanzania, which received billions of dollars to improve its road system over a period of many years. Two decades later, Tanzania’s roads were still a disaster — but its bureaucracy had swelled.

“Tanzania produced more than 2,400 reports a year for its aid donors, who sent the beleaguered recipient 1,000 missions of donor officials per year,” Easterly wrote.

This is the problem with trying to alleviate poverty through top-down solutions. Planners believe they have sufficient knowledge to solve complex economic problems, but the evidence (and economic theory) shows they do not.

Zitelmann shares a colorful anecdote from German author Frank Bremer who spent half a century in more than 30 countries fighting poverty as a developmental aid worker. In the conversation, a local villager is trying to convince an expert that his people are in desperate need of a dam. But the expert keeps telling the villager he doesn’t need a dam; what he really needs is a well. And better analytical tools. And more training for workers. And a more inclusive workforce.

It’s a comical exchange, but it’s based on Bremer’s decades of experience in the international aid field, which attempts, year after year, to apply top-down solutions to alleviate poverty.

In her book Dead Aid, Zambian-born economist Dambisa Moyo makes the case that the $1 trillion in aid African countries received from rich countries over the last half-century didn’t just fail to alleviate poverty in Africa; it exacerbated it.

“The notion that aid can alleviate systemic poverty, and has done so, is a myth,” writes Moyo. “Millions in Africa are poorer today because of aid; misery and poverty have not ended but increased.”

How Vietnam Defeated Poverty

Vietnam’s experience was in multiple ways opposite to the African one.

For starters, aid to Vietnam was drying up in the 1980s and early 1990s. Because the Soviet Union was suffering its own economic collapse, billions of dollars in aid that would have gone to Vietnam were not sent.

Meanwhile, collectivist policies continued to destroy productivity. One of the many mistakes Vietnam planners made was to ignore economic incentives, which are much more aligned with economic needs in a market economy.

Napier and Ha interviewed Bach Ngoc Chien, who recalled that his mother, like all farmers working in cooperatives, was compensated based on the number of days worked. The quality of the work or the amount of food produced didn’t matter.

“This encouraged members to slack off, be sloppy, or to arrive late at their jobs,” Claudia Pfeifer explained in her book Confucius and Marx on the Red River.

Such policies caused great harm to Vietnam’s economy. But, as its economy sputtered and then collapsed, something amazing began to happen in Vietnam in the late 1970s and early 1980s: an entirely new economy began to emerge.

Suffering under a system a bit like Lenin’s “War Communism,” the Vietnamese began spontaneously to create their own market economy to survive. State officials increasingly turned a blind eye to price control-violations and unauthorized contracts (khoan chui) between families and collectives. The practice, known as “fence-breaking” (pha rao) is just one example of the market economy (sometimes black, sometimes gray) that was emerging under the heavy hand of socialism in Vietnam.

In response to this burgeoning economy, socialist leaders did something else quite extraordinary: they embraced the market economy and admitted their own “mistakes.”

The Sixth Party Congress of 1986 is regarded as a turning point in Vietnam’s history for two reasons. First, party leaders announced its policy of Đổi Mới (“renovation” or “renewal”), a series of free-market reforms designed to embrace the grayish market economy. Second, party leaders engaged in what Zitelmann described as a process of “radical self-criticism,” admitting to the failure of previous five-year plans that achieved next to no economic growth.

Incoming General Secretary Nguyen Van Linh promised to correct the economic mistakes that had resulted — according to the party’s own report — in high inflation, a collapse in labor productivity, a decline in manufacturing, massive unemployment, and widespread corruption.

“They did not try to blame other external factors,” Zitelmann told me in a recent interview. “It would have been very easy to do so.”

Importantly, after the watershed meeting in 1986, political leaders continued to push free-market reforms. In 1987, a new investment law was passed that showed Vietnam was open for business. The law promised that the state would not expropriate or nationalize foreign property or capital.

In 1988, a series of measures was passed to reduce or eliminate government barriers to economic activity. They included the following: 

eliminating price controls and subsidies 

abolishing domestic customs checkpoints

allowing private companies to hire up to 10 workers (a cap that was later increased)

slashing regulations on private companies

deregulating the banking system

returning businesses that had been seized during nationalization to private owners

The early 1990s saw legislation that introduced a legal framework for LLCs (Limited Liability Companies) and the introduction of Article 21 in the 1992 Constitution, which recognized certain private property rights (and other liberties, including freedom of religion).

Though in December 1991 Vietnam lost its primary benefactor and trade partner, the Soviet Union, it responded by expanding trade with capitalist countries, such as Australia, Taiwan, South Korea, and Japan. A trade agreement with the United States was completed in 2001, and in 2007, Vietnam joined the World Trade Organization.

Today, Vietnam is one of America’s top-ten trading partners. The nation’s primary exports, which were once coffee and coconuts, are computers, mobile phones, and other electronics.

It was one of the most miraculous economic transformations in history, and it achieved amazing results. From 1990 to 2022, per capita GDP in Vietnam increased more than fivefold, surging from $2,100 to $11,400 (in 2017 dollars).

‘Peace, Easy Taxes, and a Tolerable Administration of Justice’

Vietnam’s success didn’t happen overnight, of course. Nor is it the only country to escape poverty in recent decades. China, India, and Poland have similar stories.

What these stories all have in common is that these nations rose from poverty by embracing a common formula: more economic freedom and free trade. And just like these other nations, Vietnam’s success was not the result of international aid or central planning.

Much like China, whose own economic transformation was spearheaded by mass privatization, Vietnam’s success stemmed from an admission that central planners couldn’t run an economy. So they stopped trying and largely got out of the way. The earliest steps of Đổi Mới merely recognized the legitimacy of the shadow economy that had already emerged.

None of this is to say that Vietnam (or China) is a capitalist utopia. On the contrary, Vietnam ranks 59th in the world in economic liberty, according to the Heritage Foundation’s 2024 Index of Economic Freedom, slightly above France but below Belgium.

Nor is Vietnam the richest country in the world. With a per capita GDP of $15,470, it’s roughly in the middle, slightly higher than Ukraine ($15,464) and slightly lower than Paraguay ($16,291), according to Global Finance magazine.

What’s important to understand is that Vietnam was the poorest country in the world through the 1980s but transformed itself by abandoning socialism and embracing an approach more congenial to free markets. In doing so, it lifted tens of millions of people out of poverty.

This economic miracle was achieved not through international aid or other top-down solutions, but by simply allowing the invisible hand to work. The term, Adam Smith’s famous metaphor for the spontaneous order that occurs in market economies, brings to mind something else the Scottish economist wrote.

“Little else is required to carry a state to the highest degree of opulence from the lowest barbarism, but peace, easy taxes, and a tolerable administration of justice,” wrote the Wealth of Nations author, “all the rest being brought about by the natural course of things.”

Vietnam is proof that Smith had the formula right. Free markets, not international aid, are the key to defeating poverty. And it doesn’t take an economist to see it.

“Commerce — entrepreneurial capitalism — takes more people out of poverty than aid,” the Grammy-winning U2 frontman Bono noted more than a decade ago.

Bono is right.

And if humans are serious about preventing hundreds of millions more from going through what Phung Xuan Vu did — waiting for hours on end for a single scoop of rice — they should acknowledge the power of free markets, and recognize that international aid can’t achieve anything close to what economic freedom can.

This is something Easterly recognized nearly two decades ago.

“Remember, aid cannot achieve the end of poverty,” he wrote in White Man’s Burden. “Only homegrown development based on the dynamism of individuals and firms in free markets can do that.”

Decades of evidence shows he’s right.

Dollar bills (figuring George Washington) on top of a map of Saudi Arabia.

Last week several reports suggested the termination of a US-Saudi petrodollar agreement, and speculated a Saudi Arabian move to sell oil on world markets in various currencies, including the Chinese yuan. The accounts were rife with inaccuracies: the Saudis’ have transacted in non-dollar currencies for decades, and there has never been a formal treaty, much less with a specified expiration date, governing the loose arrangement that has come to be called the ‘petrodollar system.’

But even the fragments of broken mirrors reflect reality, and despite their fundamental errors a significant trend is in evidence: Saudi Arabia is progressively reducing its dependence on the United States. Quite possibly reflective of its recent admittance to the expanded BRICS block it is exhibiting a greater inclination to settle oil transactions in currencies other than the US dollar. Owing to the US and Western Europe’s increasingly entangled alliances, and its own efforts to diversify away from dependence upon energy exports, Saudi Arabia has been increasing its diplomatic and economic engagements with China, Iran, Russia, nations considered primary US foreign policy adversaries. Recent moves toward accepting non-dollar currencies reflects broader geopolitical shifts away from US currency hegemony.

The concept of the petrodollar, established in the 1970s, was an informal arrangement where Saudi Arabia agreed to sell oil exclusively in US dollars in exchange for US military protection and investment in US Treasury securities. In the immediate wake of the collapse of the Bretton Woods system in 1971, the arrangement bolstered the value of the US dollar and secured US military support for Saudi Arabia. It also ensured relatively consistent demand for US government debt, a windfall which five decades later has become a millstone of damning heft. 

A handful of policy changes indicate departures from the heretofore entrenched framework. In January 2023, the Saudi finance minister announced the possibility of conducting trade in a broadening variety of currencies. This was followed by increasing oil imports from Russia and establishing a formal, fixed currency swap agreement with China. Best characterized as strategic realignments, Saudi Arabia has sought to forge flexible relationships with regional and rising  global powers outside the sphere of American influence.

Myths and hyperbole aside, the weakening US-Saudi relationship is one instance amid a growing trend of diminishing US influence in global currency markets and international finance. It is a shift reflective of the weaponization of the dollar in early 2022 and a growing array of domestic policy choices which are rapidly destroying the dollar’s attractiveness. Certainly, and as has been said many times: these effects of these changes will not be seen or felt overnight. But developments emerging with increasing rapidity evince an ongoing decline in control, and reduced role, in over global financial and geopolitical matters.

Aerial view of Nissan Stadium in Nashville, home of the NFL’s Tennessee Titans.

Another day, another push to give many millions to multimillionaires. The Jacksonville Jaguars are pushing hard for the city to renovate their stadium. Not far away, St. Petersburg, Florida is shoveling money at the Tampa Bay Rays. As economists never tire of pointing out, however, government funding for stadiums throws bad money after good. Instead of going after what C. Montgomery Burns called “the American dream: a billionaire using public funds to build a private playground for the rich and powerful,” cities would put the money to better use filling potholes, improving schools, or just cutting taxes.

The “economic impact studies” on which stadium subsidies are based have another name: lies. In a recent volume honoring the economist Robert A. Baade, who from a relatively obscure academic position at Lake Forest College helped create modern sports economics and especially the well-developed literature on the effects of stadiums and mega-events, a group of distinguished economists have contributed a series of essays in his honor. The Economic Impact of Sports Facilities, Franchises, and Events is expensive, but it should be required reading before anyone talks about paying for a stadium.

Baade is responsible for the tongue-in-cheek “Baade Rule”: Any time you see an “economic impact” estimate, move the decimal point one space to the left.

Stadium subsidies are classic exercises in the broken window fallacy. Anyone who has ever had small children can think of a lot of things they have had to replace because one of the kids broke something. It’s a mistake to infer from the spending you have to do that the economy is “stimulated” as a result. After all, you could have spent that money on something else, while also having the services of the window one of the kids broke.

Building a stadium with government money is a lot like paying to fix a broken window. The resources have to come from somewhere, and that “somewhere” is going to be taxpayers’ pockets. Furthermore, it is easy to see all the hustle and bustle happening around the new stadium without appreciating the fact that the hustle and bustle is probably coming from somewhere else in the metro area. The money I spend near Progressive Stadium when I go there to watch Stallions or Legion games is money I’m not spending in my neighborhood of Avondale. As city spending goes, stadiums mostly redistribute economic activity within a metro area, much more than they increase it.

As the essays in the volume show, what cities pay for stadiums outstrips any measurable positive spillover effects. They redistribute and waste, but they do not create. It is not a new insight: Heywood Sanders’s Convention Center Follies, which goes into detail about the logic as it applies to municipal civic centers, is a decade old. We have yet to learn the lesson.

Stadium boosters frequently come to the table armed with “economic impact studies” that, the contributors to the volume argue, are best thought of as “advocacy studies” and promotional materials more than serious analysis. They rely on unrealistic and implausible multiplier effects and other assumptions that do not withstand serious scrutiny. They are, however, attractively produced and presented by attractive and persuasive professional people, and they rely on a credulous public who gets wowed by phrases like “multiplier effect” and quantitative sophistry. Rarely, if ever, are there well-done follow-up studies. For economists, the professional rewards are usually scarce and the social penalties are severe.

One of the scholars doing the Lord’s work on this issue, however, is Kennesaw State University economist JC Bradbury, referred to as “Professor Nutjob” by one online critic and regularly savaged on social media for having the courage to speak out and say what just about every economist knows: Publicly financed stadiums are boondoggles that, if anything, imperil cities’ financial positions.

The book suggests a new direction for the ethics of sports journalism. It noted that one “news” story about the economic impact of a new stadium in Nashville was basically identical to the press release. It refers to the economic impact of stadiums as a perfect example of Zombie Economics: “bad ideas that just will not die.” Despite, for example, evidence that the tax revenue effect for Arlington of attracting the Cowboys were trivial, we still keep getting deals like the abominable Buffalo Bills stadium deal and the even more abominable Tennessee Titans stadium deal: “…when economists suggested it was hard to imagine a worse stadium deal than the one in Buffalo, Nashville said ‘Hold my beer,’ and proposed a $2.1 billion stadium with $1.26 billion in public money which was later approved.”

If your only metric for success is “be a big league city,” then of course a lavish stadium deal that attracts or retains a big league team will be a success. But that raises a lot of important questions. Are there substantial local benefits to being a big-league city that won’t be reflected in ticket prices and TV deals?

So beware the special interest group bearing the economic impact study. It’s poorly done and based on a lot of questionable assumptions, and it’s being waved by someone looking to pick your pocket and expecting you to thank him for the honor.

A terrestrial bitcoin access point in Tomaszów, Poland.

Bitcoin looks different to everyone observing it, a modern parable of the blind men and the elephant.

To economists, it looks like inferior money since it doesn’t have a supply response.

To regulators, it looks like sneaky attempts to launder money and evade taxes. 

To the wider public, it looks something like the hideous offspring of financial speculators and technobabbling preppers. Most people therefore ignore it. 

With Resistance Money: A Philosophical Case for Bitcoin by Andrew Bailey, Bradley Rettler, and Craig Warmke, the philosophers have entered the arena. The trio, professors at Yale-NUS, the University of Wyoming, and Northern Illinois University, considers nothing more important than bitcoin and have consequently wound down all their other research agendas. After a few early papers and research reports (here, here, and here) — including, for disclosure, an AIER workshop sponsored by the Bitcoin Policy Institute — a book was inevitable. 

“This is by far the hardest and most important intellectual project I have ever completed,” Bailey said a few months ago about the book, out this week by academic publisher Routledge. It’s a calm and serious book, accessible to curious beginners and those not already sold on bitcoin as a quick-fix for every societal ill. 

Bitcoin is, in John Oliver’s famous words, “Everything you don’t understand about money, combined with everything you don’t understand about computers.” Some technical explanations are unavoidable, but the reader isn’t subject to an avalanche of technical mumbo-jumbo, nor passionate rallying cries that approach sales pitches. 

The authors openly say they hold bitcoin and think it is a benefit to the world. That confession shouldn’t discount their many arguments. The approach of looking at funding or financial incentives and discarding arguments accordingly is lazy: “We humbly submit that the grift critique gets things backwards. We advocate for bitcoin because we believe in it after years of study; we didn’t study bitcoin for years because we own bitcoin.” Therefore, “our arguments stand or fall on their merits.”

And of merit there is plenty. The authors don’t overplay their hand, like many bitcoiners are otherwise wont to do, but situate their argument right off the bat: 

“Despite the hopes of many bitcoin diehards, it won’t end war, restore the traditional family, or fix the real estate market. It won’t improve nutrition, inspire a return to Renaissance-style art, or revive nineteenth-century architecture. Bitcoin does not fix everything. It fixes a few things — and even breaks some others.”

Definitely Criminal

What many people believe about bitcoin is true: It is for criminals. But it’s also for the freedom fighters, for those cut off from the global monetary system, for those kept financially ostracized by the laws or customs of their lands. It’s for Russian or Nigerian dissidents trying to receive and spend funds, it’s for Afghan women under patriarchal rule, it’s for refugees trying to cross a border with their (financial) assets intact. It’s for Westerners, trying to escape the worst consequences of inflation, for marijuana dispensaries whose business is legal in the states they operate but illegal at the federal level (and therefore unable to make use of the banking system that’s under heavy, centralized control).

Actually, all of these uses are the same thing — many parts of the same elephant. The nature of money is to be usable between enemies that can’t otherwise trust or compel one another to behave. (Friends can use credit and favors.) It’s a bearer instrument that doesn’t require identification, a bank account, or the permission of a ruler.

“Bitcoin,” write Bailey, Rettler, and Warmke powerfully and succinctly, “is resistance money.” It’s a monetary way of opting out, of avoiding hurdles. No wonder the criminals like it too.

Resistance Money isn’t a libertarian book, singing the free market case for bitcoin or musings about a collapsing dollar. Such books exist. The trio, explicitly not libertarians, instead try to create something bigger. They investigate not whether the things bitcoin breaks are worth breaking, but “whether we ought to prefer a world with bitcoin to a world without bitcoin.” They do so prudently and thoroughly, using the philosopher’s tool of John Rawls’s veil of ignorance. 

Supposing that you don’t know who you are, what country you were born in, and what your skills, interests, and opportunities are (that is, trying to strip readers of their monetary and financial privilege) — would you still support bitcoin’s existence?

Under the framework of the veil, the authors try to make as close to an unobjectionable case for bitcoin as possible. That’s both admirable and valuable. Not seeing a problem with censorship and financial oppression is tantamount to believing that only Bad People get in trouble with (benevolent) authorities. In reality, “good guys and gals often get censored, too.”

Resistance Money asks you to look further into time and wider across the globe: “If you could imagine yourself ever being in a position that you’d need resistance money or you’d need to teach someone else how to use resistance money, it would be wise to learn how to use bitcoin.” That’s the reality for some four billion people who live under authoritarian rulers who restrict, capture, oppress, or otherwise punish dissidents for doing or saying the wrong things. Freedom money, wielded by its users and resistant to capture, identification, and censorship, doesn’t dispel unfair laws or make evil rulers go away — but almost nothing else does that either, so it’s an unfair standard. Using bitcoin does make spending and moving money much harder for such rulers to stamp out. 

That’s an obvious improvement, a benefit to humanity. Bitcoin is freedom money, an escape hatch from under a tyrant’s heavy boot. Behind the veil, we have horrifying large chances of being one of those people. 

Still, this framework is a little too low of a bar. To an economist, certainly, it’s a very undemanding construction: Expanding the decision set and available opportunities can more or less only benefit users (independence of irrelevant alternatives). More options are better. Given different individual preferences and circumstances, the state of the world with bitcoin is an improvement for some. It’s therefore pretty trivial to conclude that it’s better for these people to have access to bitcoin than not. 

A world with bitcoin does come with some costs. There’s some amount of money-laundering, ransomware, and siphoning off of government income through taxation and seigniorage that wouldn’t have occurred if something like bitcoin was never invented (well, discovered…). The authors admit that such things, to the extent they are enabled by bitcoin, are negative for the world, but that they’re not “not a serious threat to bitcoin’s overall net benefit to the world.” 

In one sense, Resistance Money is the natural follow-up to Alex Salter, Pete Boettke, and Dan Smith’s Money and the Rule of Law.. “With respect to monetary institutions,” write Bailey, Rettler, and Warmke, “bitcoin brings the rule of law to the world of money, and is an attractive alternative and opt-in money, especially for the billions who suffer under bad monetary rulers.” 

And they’re pretty radical about the implications of this monetary institution: 

“Bitcoin is a monetary institution that aims at predictability and radical disintermediation. It exists, not to pursue price stability or full employment, but to remove the need for central money makers, mediators, and managers altogether.” We need serious books about money and bitcoin. ResistanceMoney is precisely that.

Federal Open Market Committee (FOMC) participants gather in Washington, DC. 2022.

As anticipated, the Federal Open Market Committee (FOMC) voted to hold its federal funds rate target in the 5.25 to 5.5 percent range on Tuesday. FOMC members also revised their forward guidance for the future path of interest rates. Back in March, the median FOMC member projected the midpoint of the federal funds rate target range would fall to 4.6 percent this year, equivalent to three 25-basis-point cuts. Now, the median FOMC member projects it will fall to just 5.1 percent, equivalent to just one 25-basis-point cut.

The FOMC’s plan to hold rates higher for longer is not limited to 2024. The median FOMC member now projects the federal funds rate will be 4.1 percent in 2025, compared with the earlier projection of 3.9 percent. The median FOMC member also revised up the longer run federal funds rate projection, from 2.6 percent to 2.8 percent.

Figure 1. Distribution of participants’ judgments of the midpoint of the appropriate target range for the federal funds rate or the appropriate target level for the federal funds rate, 2024–26 and over the longer run.

Why have FOMC members revised up their projections for the federal funds rate? There are likely two reasons. First, FOMC members seem to believe that the long run neutral real rate of interest — what economists call r* — is higher than previously thought. Second, they now think inflation will decline more slowly. Consequently, they will take longer to cut rates, and not cut rates quite as far.

Gov. Christopher Waller offered Some Thoughts on r* at the Reykjavik Economic Conference last month. In the talk, Waller paid specific attention to fiscal policy, noting that r* will rise “if the growth in the supply of US Treasuries begins to outstrip demand.”

It is probably not news to many people that the US is on an unsustainable fiscal path. The latest outlook from the Congressional Budget Office paints a challenging picture of the future, with debt expected to grow at an unprecedentedly high rate for an economy at full employment and not involved in a major war.

All of these financing pressures may contribute to a rise in r* in coming years, but only time will tell how large a factor the U.S. fiscal position will be in affecting r*.

If r* will be higher than previously expected in the long run, then the Fed will not need to cut rates as far as it had previously thought necessary when returning policy to a neutral stance.

The latest projections suggest Waller is not alone in thinking fiscal policy will push up the long run neutral real rate of interest. The median FOMC member increased his or her projection of the nominal federal funds rate in the longer run, while leaving his or her projection of inflation in the longer run at 2.0 percent. Taken together, those changes imply an increase in the projected long-run neutral real rate of interest.

FOMC members also think inflation will decline more slowly. That’s partly due to the sudden resurgence in inflation in 2024:Q1. The median FOMC member now thinks the Personal Consumption Expenditures (PCE) price index, which is the Fed’s preferred measure of inflation, will grow 2.6 percent this year, compared with the 2.4 percent projected back in March. The median FOMC member now projects core PCE inflation, which excludes volatile food and energy prices, at 2.8 percent in 2024. In March, the median FOMC member had projected just 2.6 percent core PCE inflation this year.

It is not merely that the earlier inflation has caused FOMC members to revise upward their projections of inflation. They also think inflation will be higher in the future. The median FOMC member now projects 2.3 percent headline and core PCE inflation in 2025, compared with earlier projections of 2.2 percent.

Table 1. Economic projections of Federal Reserve Board members and Federal Reserve Bank presidents, under their individual assumptions of projected appropriate monetary policy, June 2024

The decision to hold rates higher for longer is understandable. FOMC members are not satisfied with the pace of disinflation so far and intend to keep policy tighter in the near term to ensure inflation eventually returns to target. At the same time, they believe fiscal policy (and perhaps other factors) are pushing up the long-run neutral real interest rate, meaning they will not need to cut rates as far when the time to adopt a neutral policy stance eventually comes.

Of course, to say that the FOMC’s intended policy path is understandable does not imply that it is ideal. The latest inflation data, released this morning, showed basically no change in the headline Consumer Price Index (CPI) over the last month (zero inflation month-over-month). Core CPI inflation was just 2.0 percent in May. Perhaps inflation will pick back up somewhat in the months ahead. But there is little reason to think inflation will not be back down to the FOMC’s two-percent target in 2025.

The big risk over the next two quarters is that the FOMC holds its target rate too high for too long. Just as the FOMC was slow to adjust policy when inflation surged in late 2021, it will be slow to adjust policy as inflation returns to and falls below its target in 2024. With its nominal interest rate target fixed firmly at 5.25 to 5.0 percent, falling inflation pushes the FOMC’s implicit real federal funds rate target higher. Left unchecked, that will cause economic activity to slow and unemployment to rise.

Headquarters of the Federal Reserve in Washington, DC.

Prices held steady in May, the Bureau of Labor Statistics reported on June 12. The Consumer Price Index grew at a continuously compounding annual rate of just 0.1 percent last month. It has grown 3.2 percent over the last year. Core CPI, which excludes volatile food and energy prices, grew at a continuously compounding annual rate of 2.0 percent in May and 3.4 percent over the last year.

Shelter prices continue to grow faster than almost all other prices. They rose at an annualized rate of 4.8 percent last month and 5.3 percent over the last year. Shelter accounts for roughly a third of the overall price index, meaning shelter price changes have major effects on household purchasing power. Ongoing inflation continues to exhibit relative-price dynamics due to supply-and-demand factors in specific markets.

We should be careful not to read too much into one data point. Inflation appeared to be in check during the second half of 2023. But then it picked up during the first quarter of 2024. Still, the April data marked a modest improvement over March and the most recent data for May are even better. If prices continue to grow around 2.0 percent, as core CPI did last month, the Fed could decide to cut its federal funds rate target sooner than anticipated.

The fed funds target rate range is currently 5.25 – 5.50 percent. That’s a nominal rate: it reflects both the real (inflation-adjusted) cost of short-term capital and expected inflation. Let’s suppose the future inflation rate is the annualized average over the past three months. Expected inflation would thus be 2.8 percent and the implied range for the real fed funds rate target is 2.45 to 2.70 percent.

As always, we must compare the real target range to the natural rate of interest. There is some interest rate that brings capital supply and demand into balance, resulting in full employment and non-accelerating inflation. We can’t observe the natural rate directly, but we can estimate it. Ideally, the Fed’s policy rate will equal the natural rate.

The New York Fed estimates the natural rate to be somewhere between 0.73 and 1.18 percent as of 2023:Q4. Obviously, economic fundamentals have changed since then. Yet it’s still noteworthy that market rates are somewhere between two to three times the natural rate! Judging by interest rates, it looks like monetary policy is quite restrictive.

Monetary data also suggest money is tight, though likely not as tight as the interest rate data indicate. Neutral policy ensures the money supply grows to meet money demand. M2, the most commonly cited measure of the money supply, is up 0.53 percent from a year ago. Since real income and population are growing faster than this, current M2 growth also suggests money is tight. But this is speculative.

In addition to the simple aggregates, we should look at money-supply data that weight components based on liquidity, or how “money-like” the components are. These are growing between 1.01 and 2.06 percent per year. This suggests monetary policy is closer to neutral than the simple-sum M2 aggregate implies. 

At yesterday’s meeting, the FOMC voted to hold its federal funds target range at 5.25 to 5.5 percent. Provided the trend in this month’s Personal Consumption Expenditures Price Index (PCEPI) matches that of the CPI, central bankers should start preparing for rate cuts. We’ve spent the last few years suffering from the consequences of loose money during and after the pandemic. But making money tight would also be a mistake. Excessively restrictive policy creates real economic costs in the form of foregone output and employment. Let’s hope monetary policymakers can strike the right balance.

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