Woosh, woosh, woosh.

The helicopter blades cut through the crisp summer air, and the thundering roar of the engines echoes through the mountain valley. A handful of workers 1,200ft up the mountain stand ready to put in place the massive steel barriers lifted there by the chopper. All day, for a couple of days in a row, these teams of engineers, construction workers, and skilled pilots moved a few dozen huge barriers from the airfield on the other side of the valley to the steep slopes above the main portion of the village.

Watching the helicopter make its hypnotic journey has me thinking about the public finance implications of constructing and maintaining avalanche protections.

Certainly, the literal value at risk is quite extreme: the thousand-odd inhabitants of my little village have plenty of houses and cars and belongings — not to mention their own, invaluable lives — as well as the major businesses in town (hotel, harbor, church, offices) in the way of potential avalanches. Most of us stand to lose a lot if a snowy flood descends from the ominously steep mountain above us.

It makes plenty of financial and economic sense to expend labor, raw materials, and a decent amount of fossil fuels to erect this protection against the elements. Tail-risk insurance against nature.

But avalanche protection, like defense or streetlights, is what economists classify as “public good,” being both non-rivalrous and non-excludable. Once in place, an inhabitant like myself cannot be prevented from benefiting from the service, whether or not I financially contributed to its construction or upkeep.

Thus, says elementary public finance, an otherwise well-functioning market of prices and individual private property fails to provide (enough) of these goods. With an insufficient amount of protection, our village will have too many avalanches damaging too much property. The reason is that a profit-oriented entrepreneur cannot recoup his or her investment since once provided the good is non-excludable and the business can’t charge for the service.

On the other side of that transaction, consumers, who backward-induct that they’d be protected regardless of how much or little they contribute, have a strong incentive to shirk (free ride) — and receive the benefit anyway.

Because the market supposedly fails, the government is justified in saving the day by taxing everyone fairly, and supplying just enough of these goods to maximize a benevolent social planner’s utility function.

The age-old question is, of course, how this social planner knows the relevant quantities. Market exchanges are expressions of marginal value: this much extra protection for that much extra money. The government doesn’t know these quantities. Interventions, writes Guido Hülsmann so eloquently in his book Abundance, Generosity, and the State, “reduce the ability and willingness of private households to make gifts.” He continues: “In a private setting, these problems are moderated by the limits of private property. A private donor will wish to make sure that his donation really achieves its purpose, and he can stop funding any projects that are contrary to purpose.” 

Government involvement removes all that, puts unaccountable bureaucrats in charge, and blankets the financing across a wider taxpaying area. Where I lived, tacked onto every citizen’s insurance policy is a percentage tax, destined for a fund to deal with these matters. 

To no surprise among those well-versed in political economy and public administration, it turned out earlier this year that from the tax levied specifically for protective works, some 40 percent goes straight to the Treasury — and not to the fund tasked with flood and avalanche protection. Even under this supposed solution to a market failure, we’re getting less public goods than we get shafted for. Like many other well-intentioned public finance policies, in time they turn into pure money grabs. 

I approve of this spending of money. I’m happy that these workers and the committees and decision-makers opted for spending money on my protection (they could have spent it elsewhere, and my tax contribution would have been a pure redistribution). I like it so much, indeed, that I’d be willing to contribute myself — many multiples of the $10 my insurance company levied on me for my pittance of a policy, and much closer to the $1,000 or so that the per-person expenditure of the fund would have amounted to among the municipalities and villages for which they were erecting avalanche protections in the last decade. (Accounting for the disproportionately at-risk physical assets run by big companies in the village, the average household would likely be on the hook for much less.)

Centralized government financing takes away the ability for people to express their values monetarily. I can’t “overpay” the surcharge, can’t tip the workers or pilots for a job well done. The outsourcing of decisions, financing, and responsibility alienates citizens from the issue. I am annoyed at the $10 taken without my explicit consent but would have been proud and excited to contribute to a locally organized avalanche protection — even if the exact amount would have been much higher. 

Why, just put out a call for citizens to contribute? We have Facebook pages and regular local newspapers and booklets, and the old-fashioned word-of-mouth. In How Economics Can Save the World Erik Anger, of Stockholm University, tells of a local swimming society that funds itself mainly through competitive overbidding on homemade jams and pies, made and organized by the locals. Strong communities and a shared sense of purpose can compensate fully and sufficiently for the supposed underproduction of public goods.

Suppose, then, that there isn’t enough funding for some proposed version of a community project. Then we can either individually tell people to donate more or realize that insufficient funds raised is the populous saying they don’t actually value the additional avalanche protection received over what else they could be spending their funds on. The (e)valuation — willingness to pay — is the very limiting factor in deciding how much of a public good ought to be provided. 

Such accountability drowns in the major political questions of a larger, centralized country, where local governments end up bidding against each other for projects from the central honey pot. 

Another example of the same public finance themes of risk-reward is a prospective tunnel through the mountain. One of the two roads out of the valley squiggles around a steep mountain cliffside, unstable and vulnerable to landslides. The central government recently said a tunnel to cut out the dangerous cliff is a priority. 

Over coffee with a neighbor when I first moved here, I was told that he much approved of a tunnel but didn’t want to pay a toll for passing it. It’s an extra difficulty, he said, and it’d be unfair since the people in the capital are richer than those residing in our little village. But why does that matter? He, and other villagers like him, are the ones benefitting the most from the potential tunnel. 

No matter what the optimal or suboptimal quantities of public goods are, what the existence of a third party far, far away does to local affairs like this is to outsource the cost and the responsibility. 

It’s time we radically shrunk the size of the state, such that responsibility and financing of collective affairs rest squarely with the local people that most benefit from public goods — whether or not they be underproduced compared to some idealized blackboard model.

In We Need to Talk About Inflation, his thoughtful, accessible tour of the history, theories, politics and future of inflation, Stephen King warns us that: 

          “Inflation is never dead.”  

He is right about that, and that blunt reminder alone justifies the book. 

The book begins, “In 2021, inflation emerged from a multi-decade hibernation.” Well, inflation had not really been in hibernation, but rather was continuing at a rate which had become considered acceptable. It was worry about inflation that had been hibernating. People found themselves caught up in the runaway inflation of 2021-2023, a wake-up call. As the book explores at length, that explosive inflation had been unexpected by the central banks, including the Federal Reserve, making their forecasts and assurances look particularly bad and proving once again that their knowledge of the future is as poor as everybody else’s. 

Now, in the third quarter of 2024, after historically fast hikes in interest rates, the current rate of inflation is less. But average prices continue going up, so the dollar’s purchasing power, lost to that runaway inflation, is gone forever. Inflation continues and has continued to exceed the Fed’s 2-percent “target” rate. And the Fed’s target itself is odd: it promises to create inflation forever. The math of 2-percent compound shrinkage demonstrates that the Fed wants to depreciate the dollar’s purchasing power by 80 percent in each average lifetime. Somehow the Fed never mentions this. 

King shows us that such long-term disappearance of purchasing power has happened historically. Chapter 2, “A History of Inflation, Money and Ideas,” has a good discussion, starting with the debate between John Locke and Isaac Newton, of the history, variations and continuing relevance of the quantity theory of money. It also contains an instructive table of the value of the British pound by century from 1300 to 2000. The champion century for depreciation of the pound was the twentieth. The pound began as the dominant global currency and ended it as an also-ran, while one pound of 1900 had shriveled in value to two pence by 2000. The century included the Great Inflation of the 1970s, during which British Prime Minister Harold Wilson announced, the book relates, that “he hoped to bring inflation down to 10 percent by the end of 1975 and under 10 percent by the end of 1976.” His hopes were disappointed, as King sardonically reports: “The actual numbers turned out to be, respectively, 24.9 percent and 15.1 percent.”

These inflationary times need to be remembered, as should numerous hyperinflations. Best known is the German hyperinflation of 1921-23, the memory of which gave rise to the famous anti-inflationist regime of the old Bundesbank. (It was once wittily said that “Not all Germans believe in God, but they all believe in the Bundesbank” — however, this does not apply to its successor, the European Central Bank.) King also recounts that the effects of the First World War gave rise to three other big 1920s hyperinflations — in Austria, Hungary and Poland, and that “inflation in the fledging Soviet Union appears to have been stratospheric.” He discusses the 1940s hyperinflation in China, and how in the 1980s “Brazil and other Latin American economies…succumbed to hyperinflation, currency collapse and, eventually, default.” We must add the inflationary disasters of Argentina and Zimbabwe.  

All these destructive events resulted from the actions of governments and their central banks. The book considers the theory of how to put a stop to this problem that Nobel Prize-winning economist Thomas Sargent made in 1982. First and foremost, as described by King, it is “the creation of an independent central bank ‘legally committed to refuse the government’s demand for additional unsecured credit’ — in other words, there was to be no deficit financing via the printing of money.” Good idea, but how likely is this suggested scene in real life? The central bank says to the government, “Sorry about your request, but we’re not buying a penny of your debt with money we create. Of course, we could do it, but we won’t, so cut your expenses. Good luck!” Probably not a winning career move for a politically appointed central banker, and not a very likely response, we’ll all agree. 

Moreover, in time of war or other national emergency, the likelihood of this response is zero. War is the greatest source of money printing and inflation. War and central banking go way back together: the Bank of England was created in 1694 to finance King William’s wars, was a key prop of Great Britain’s subsequent imperial career, and in 1914, fraudulently supported the first bond issue of the war by His Majesty’s Treasury.i The Federal Reserve was the willing servant of the U.S. Treasury in both world wars and would be again, whenever needed. In the massive war-like government deficit financing of the 2020-2021 Covid crisis, the Fed cooperatively bought trillions in Treasury debt to finance the costs of governments’ closing down large segments of the economy. 

Reflecting on the enduring temptation of governments to inflate and depreciate their currencies, King rightly observes: 

“Inflation is very much a political process.”  

“Left to their own devices, governments cannot help but be tempted by inflation.” 

“Governments can and will resort to inflation.” 

“By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens.” (Here he is quoting J.M. Keynes.) 

Just as economics is always political economics and finance is always political finance, central banking cannot avoid being political central banking. The book considers at length the inevitable interaction between government spending and debt, on one hand, and money creation and inflation, on the other—in economics lingo, between fiscal policy and monetary policy. In theory, there can be a firm barrier between them, the spending and taxing done in the legislative and executive branches; and the money printing, or not, in the control of the central bank. In practice, the two keep meeting and being intertwined. King calls this the “Burton-Taylor” problem. Here is his metaphor: 

“History offers countless examples in which fiscal expediency trumps monetary stability. The two big macroeconomic levers are the economic equivalent of Elizabeth Taylor and Richard Burton, the Hollywood stars who were married twice [and divorced twice] and who were, perhaps still in love when Burton died: occasionally separated but always destined to reconnect.”  

Indeed, governments’ desire for deficit spending and the ready tool of money printing and inflation are always destined to reconnect.  

This reflects the fundamental dilemma of all politicians: they naturally want to spend more money than they’ve got to carry out their schemes, including wars. As the book observes, “Wartime provides the ultimate proof of inflation’s useful role as a hidden tax.” Politicians want to keep their perhaps lavish promises to their constituencies, to reward their friends, to enhance their power, to get re-elected; they like much less making people unhappy by taxing them. The simple answer in every short term, is to borrow to finance the deficit and run up the government’s debt. When borrowing grows expensive or becomes unavailable, the idea of just printing up the money inevitably arises, the central bank is called upon, and yet another Burton-Taylor marriage occurs.  

Just printing up the desired money is a very old idea. As the book discusses, this frequently practiced, often disastrous old idea has been promoted anew—now under the silly name of “Modern” Monetary Theory. 

King writes: 

“The printing press is a temptation [I would say an inevitable temptation] precisely because it is an alternative to tax increases or spending cuts, a stealthy way in the short run of robbing people of their savings…. Ultimately, there is no escaping ‘Burton-Taylor.’” 

When governments and central banks yield to this temptation, can the central banks correctly anticipate the inflationary outcomes? Do they have the required superior knowledge? Clearly the answer is no. 

Chapter 6 of the book, “Four Inflationary Tests,” provides an instructive example of failed Bank of England inflation forecasts, to which I have added the actual outcomes, with the following resultsii: 

Forecast MadeCurrent InflationOne Year AheadTwo Years Ahead(quarter)(estimated)ForecastActualForecastActual3Q 20200.30%1.8%2.8%2.0%10%4Q 20200.62.14.9210.71Q 20210.82.16.22.110.22Q 20211.72.39.228.4

To apply an American metaphor to these British results, that is four strikeouts in a row. The inflation forecasting record of the Federal Reserve presents similar failures. 

Central banks try hard, including their large political and public relations efforts, to build up their credibility. They want to preside over a monetary system in which everybody believes in them. 

But suppose that everybody, including the members of Congress, instead of believing, developed a realistic understanding of central banks’ essential and unavoidable limitations. Suppose everybody simply assumed it is impossible for central banks to know the future or the future results of their own actions. Suppose, as King puts it, the whole society had “a new rule of thumb… ‘these central bankers don’t know what they’re doing.’” Rational expectations would then reflect this assumption. 

In that case, central banks would certainly be less prestigious. Would our overall monetary system be improved? I believe it would be. We Need to Talk About Inflation, among many other interesting ideas, encourages us to imagine such a scenario. 

One of my more memorable exchanges with a student came in a principles of economics class. Part of the assignment for that week was chapters from Matt Ridley’s The Rational Optimist. Ridley compared the living standards of an average worker today with those of The Sun King, Louis XIV, in 1700. Some of my more ahistorical students were incredulous at Ridley’s description of the grinding poverty of the average person just a few centuries ago. 

The King had an opulent lifestyle compared to others. Louis had an astonishing 498 workers preparing each of his meals. Yet his standard of living was still a fraction of what we experience today. 

Ridley outlined the miracles of specialization and exchange in our time — an everyday cornucopia at the supermarket, modern communications and transportation, clothing to suit every taste. If we remove our blinders and see how many individuals provide services to us, Ridley concludes we have “far more than 498 servants at [our] immediate beck and call.”

Then, the memorable exchange occurred. One student shared that he would prefer to live in 1700, if he had more money than others and power over them. My first reaction was amusement; I thought the student was practicing his deadpan humor skills. He wasn’t. For him, having power was an attribute of a meaningful life. 

If only my student’s mindset were an aberration.

During the reign of Louis XIV, French mathematician and philosopher Blaise Pascal diagnosed why some lust for power. In his Pensées, Pascal wrote, “I have often said that the sole cause of man’s unhappiness is that he does not know how to stay quietly in his room.” Pascal explained that, out of the inability to sit alone, arises the human tendency to seek power as a diversion.

Pascal asks us to imagine a king with “all the blessings with which you could be endowed.” A king, Pascal told us, if he has no “diversions” from his thinking, will “ponder and reflect on what he is.” Pascal’s hypothetical king will be miserable because he “is bound to start thinking of all the threats facing him, of possible revolts, finally of inescapable death and disease.”  

“What people want is not the easy peaceful life that allows us to think of our unhappy condition.” That is why “war and high office are so popular,” Pascal argued.

Pascal argues individuals seek to be “diverted from thinking of what they are.”  I would argue a better choice of words is what they have made of themselves. 

I’ll let the reader decide how many modern politicians Pascal’s ideas apply to. With Pascal’s insight, we understand why conflict is a feature of politics and not a bug.   

Pascal spares no one’s feelings. Some “seek external diversion and occupation, and this is the result of their constant sense of wretchedness.” For them, “rest proves intolerable because of the boredom it produces. [They] must get away from it and crave excitement.”

Let that sink in. A person able to exercise coercive power can use their morally undeveloped “wretched” mind to create endless misery for others merely because exercising power distracts them from their failures as human beings. 

Many of America’s Founders had a classical education and they understood the dangers of power. John Adams wrote, “There is danger from all men. The only maxim of a free government ought to be to trust no man living with power to endanger the public liberty.”

We can overcome our “sense of wretchedness” and need for “excitement” not through the perverted means of seeking power but by creating meaning in our lives.

Viktor Frankl, the author of the seminal Man’s Search for Meaning, understood the importance of having a meaningful life and how damaging it is when the drive for meaning is thwarted. He observed how easy it is to “despair over the apparent meaninglessness of one’s life.”

No wonder those who are unfulfilled without meaning wish to be diverted from what they have made of their lives. What Frankl observed is consistent with Pascal: “Sometimes the frustrated will to meaning is vicariously compensated for by a will to power.” 

Frankl added, “In other cases, the place of frustrated will to meaning is taken by the will to pleasure.” Similarly, “The main joy of being a king,” Pascal observed, is to be surrounded by people “continually trying to divert him and procure him every kind of pleasure…  and stop him thinking about himself.” Pascal and Frankl would understand why someone would reach for their phone every few minutes. The maladaptive behavior is an attempt to scratch an existential itch.

Frankl also understood why people would become followers of authoritarian leaders. Mass movements attract followers who fail to make meaning in their lives and seek a borrowed meaning from a destructive leader.

Among the ways Frankl believed we could make meaning were thorough purposeful actions, creative endeavors, and loving others. Entrepreneurial activity — the pursuit of new ways of serving consumers’ most urgent needs — is fertile ground for making meaning. While capitalism is a mechanism for meaning making, even the term itself is loathsome to some; and thus, they fail to avail themselves of opportunities. 

Insightfully, Frankl saw, “Ever more people today have the means to live, but no meaning to live for.” Frankl wrote, 

For too long we have been dreaming a dream from which we are now waking up: the dream that if we just improve the socioeconomic situation of people, everything will be okay, people will become happy. The truth is that as the struggle for survival has subsided, the question has emerged: survival for what? 

Frankl called meaninglessness an “existential vacuum” and warned it is “increasing and spreading to the extent that, in truth, it may be called a mass neurosis.”

What Frankl observed, we see as a crisis of our time. Many people without meaning believe they are victims, and experts encourage them to think that way. Frankl called this “neurotic fatalism.” 

Neurotic fatalism hides a basic fact of human life: People who make meaning in their lives don’t seek “freedom from conditions” they realize they have the “freedom to take a stand toward the conditions.”

Pacal’s authoritarian king or many of today’s modern politicians have no meaning in their lives but find a corrupted false sense of meaning by exercising power over others, starting wars, issuing edicts, punishing enemies, etc. Likewise, those engaged in carrying out their orders have no meaning in their lives other than what they are borrowing from those leading them. This unvirtuous cycle threatens freedom. In a virtuous cycle, with meaningful lives, there is no demand for leaders who impose their will on the public. 

So where does that leave us? Are we willing to find meaning in our lives by taking a stand toward the conditions and challenges we face? 

Frankl’s imperative is to answer the call of what life demands of us. His experiences taught him “it did not really matter what we expected from life, but rather what life expected from us.”

People will seek power, but they depend on followers. People making meaning in their own lives are immune to that sirens’ call.

There’s strong and growing evidence that the “next” US recession has begun – or will begin soon. Of course, many economists will remain unsure about it, having not forecasted it, or because they refuse to forecast, or because they don’t believe something’s real until it passes them by (perhaps not even then). Similarly tardy will be the National Bureau of Economic Research, but that’s by design, because it assigns “official” dates to the start and finish of each recession and wants to be sure about the final status of oft-revised economic data before it makes its public pronouncements. Such “back-casting” and even “nowcasting” (offered by the New York Fed) are little help to those who prefer foresight and time to adjust before trouble begins.

Roughly a year ago, I reminded AIER readers that the US Treasury yield curve was inverted (i.e., the 10-year bond yield was lying below the 3-month bill rate), that all eight US recessions since 1968 were preceded (12-18 months) by such an inversion (with no false signals of recession arising without a prior inversion), and that another recession would likely begin in 2024. I wrote:

No better, more reliable forecaster of the US business cycle has existed in recent decades than the initial shape of the US Treasury yield curve, and since last October it’s been signaling another US recession that’s likely to begin in 2024. This is important, because recessions have been associated with bear markets in stocks and bull markets in bonds. Moreover, if a recession arrives early in 2024 it may affect the US elections in November.

The fact that the yield curve signal works so well for recessions is one thing, but why does it work so well? In September 2019, while forecasting the recession of 2020 (which was deepened but not caused by COVID-19 “lockdowns), I explained the logic in some detail to AIER readers:

First, a sharp decline in bond yields means a sharp rise in bond prices, which suggests a big demand for a safe security, reflecting a desire by investors to immunize against trouble ahead. Second, the longer the maturity at which one lends, the greater (normally) is the yield one receives (due to credit risk and/or inflation risk), so if bond yields are below bill yields it signals materially lower short-term yields in the future (i.e., Fed rate-cutting), which occurs during recessions. Third, the essence of financial intermediation is institutions “borrowing short (term) and lending long (term).”  If longer-term yields are above shorter-term yields, as is the normal case, there’s a positive interest-rate margin, which means lending-investing is fundamentally profitable.  If instead longer-term yields are below shorter-term yields, there’s a negative interest-rate margin and lending-investing becomes fundamentally unprofitable or is conducted (if at all) at a loss.  When market analysts observe credit markets “seizing up” before (and during) recessions, it reflects this crucial aspect of financial intermediation.

The recent, sharp deceleration in the growth rate of US manufacturing output is illustrated in Figure One, where I also indicate the point at which the latest yield curve inversion began: October 2022. That was twenty-one months ago, whereas since 1968 recessions have begun about ten months (average) after an initial inversion. If the next recession begins soon, it’ll come after a longer-than-usual lag, to be sure, but the lag prior to the “Great Recession” of 2007-09 was also long: 17 months. That it’s been inverted for so long, seemingly without negative results, could reasonably be construed as a bad thing. But negative results have been registered already: output growth has decelerated to zero (Figure One).     

The graphical history of US Treasury bond and bill yields, the yield-curve spread, and the eight recessions recorded since 1968, is given in Figure Two. In the lower panel, negative yield spreads (in red) entail yield curve inversions (bond yields below bill yields), which precede recessions (periods shaded in grey).  The upper panel shows that yield curve inversions usually result from Fed rate hiking, allegedly to “fight inflation,” but in fact to fight, curb and if necessary, reverse the economy’s growth (which it falsely presumes causes inflation). The curve can also invert when the Fed keeps its short-term rate steady as the bond yield drops.

Figure Two shows that the most recent inversion has lasted longer and has gone deeper (a more negative spread) compared to all prior recessions except those of the early 1980s. Historically, the longer and deeper has been the initial inversion, the longer and deeper has been the subsequent recession. Sadly, this latest inversion is nearly “off the chart.” Moreover, it’ll likely persist for the balance of this year, as the Fed further delays (or minimizes) rate-cutting. As such, the recession could be relatively long, lasting well into 2025, perhaps even into 2026. The Great Recession lasted nineteen months; that same interval from here brings us to March 2026. The inordinately wide yield spread (deep into negative territory) also suggests that the magnitude of the coming output contraction could be larger than normal.

Although yield curve inversion provides an early and reliable signal of recession — with a lag time sufficient for people to immunize themselves and alter their spending habits, business plans, and investment portfolios — a shorter-term indicator is also available (and reliable). It is the Sahm Rule, which is based on the discovery (by Claudia Sahm) that recessions tend to begin soon after a specific uptick in the unemployment rate. It doesn’t take much — a jobless rate that’s at least 0.5 percent points above the previously low rate.

Figure Three plots the status of Sahm’s indicator since 1968. The recently reported US jobless rate was 4.3 percent (for June), which is more than 0.8 percent points above the previous low rate (from early 2023) of 3.5 percent. The Sahm threshold has been breached. This signal is effective because once the jobless rate rises by such a degree over a brief period, it rarely reverses. If indeed recession takes hold, the jobless rate keeps rising until after a recovery occurs.

Oddly, the yield curve signal alone didn’t convince many market professionals of pending economic trouble. So they’re surprised by dire economic data or equity-price plunges; they don’t know the model — or know it but refuse to believe it. If the Sahm rule had been triggered without a prior curve inversion, perhaps they would have met that news with similar indifference. But the two measures together are significant and telling. First, we get the signal that another recession will arrive within 12-18 months, then we get the signal that says recession is imminent. The door knocks are getting harder and louder. Something’s out there.  

Still, there is disbelief. It’s well known that employment levels lag other measures over the business cycle and don’t decline until after recessions begin. The fact that jobs are still being added this year may give some folks comfort, but perhaps it shouldn’t. Shifts in the composition of employment, however, do provide a key signal. Figure Three disaggregates US employment between the public sector and private sector. Recessions tend to occur after private sector job growth has decelerated and then dropped below the growth rate in government jobs. That’s been happening for the past half-year or so — yet another signal of a pending recession.

Why might this employment differential exhibit predictive power for the economy? Whereas private employers produce wealth and are profit maximizers, public employers largely consume wealth and are budget maximizers. The former are the essence of “the economy.” If the more productive sector is losing ground (and jobs) to the more parasitic sector, the real economy itself is also losing ground. Government is a burden on output, not its “stabilizer.”

More than two years after Russia invaded Ukraine in February 2022, the war drags on with no apparent end in sight. Ukraine has recaptured 54 percent of the territory initially seized by Russia, but further offensives to push Russia out of Ukraine have stalled. Russia continues to control 18 percent of Ukraine, and recently opened a new northeastern front in the war around the Ukrainian city of Kharkiv. The Russian blockade of Ukraine continues, as does the periodic bombardment of Ukrainian cities, power infrastructure, and civilian targets. Entrenched Ukrainian forces continue to hold the line in the east while also attacking Russian forces and infrastructure with drones and missiles. Though the West has pledged $278 billion to aid Ukraine ($175 billion from the United States, with $107 billion in direct aid sent to Ukraine), there is now considerable “donor fatigue,” especially in the face of a distinct lack of success and no clear strategy for how Ukraine can secure a victory.

In short, the Ukraine war has become a frozen conflict, a war that drags on for years (or decades, in some cases), with no political resolution to the crisis. There are few prospects for substantive success for either side any time soon, with Ukrainian civilians paying the steepest price. There is no plausible scenario for a total Russian defeat, in which Ukraine expels all Russian forces out of its territory, certainly not without Russia escalating to nuclear use. The kind of total victory that Ukrainian (and some American chickenhawk) rhetoric seems to require is simply implausible. Just as implausible is a total Ukrainian defeat; the poor performance and the steady losses of the Russian military, along with the unexpectedly effective resistance by Ukrainians, enabled by Western weapons and munitions transfers, means that Ukraine will almost certainly not be swallowed up by Russia. So if the war will not end with Ukrainian total victory and Russian total defeat (or vice versa), what is likely to happen?

A frozen conflict with no ceasefire would be one of the worst outcomes for Ukraine. Permanent semi-war would mean an entire society remains uprooted, with continuous loss of life, constant threat of physical destruction and attacks on infrastructure, an inability to resume the normal economic and social functions of daily life, and an unresolved territorial conflict with a larger, aggressive neighbor. Unless Ukraine and Russia decide to seek peace, or at least a ceasefire, this is also the likeliest scenario.

But all wars end, and this one will too — eventually, one way or another. It is long past time to consider what the end of this war might look like.

Some kind of ceasefire will likely emerge. This will require both sides — and the United States, which seems to currently prefer a war of attrition continue to a ceasefire — to want to seek peace, or at least a respite from the war. A more-or-less permanent ceasefire seems likeliest to emerge after public support for continuing the war collapses, or once it becomes apparent that one or both sides can no longer conscript enough new recruits to continue the war effort at the current level of intensity. Such a ceasefire would need a mediator to initiate; Turkey has been proposed as one possibility.

Former German Chancellor Gerhard Schroeder has claimed that Ukraine initially used him as an intermediary to seek a ceasefire with Russia, but he was forbidden from continuing to negotiate by the United States. Schroeder has stated that the Ukrainian peace plan included a renunciation of NATO membership, the installation of two national languages (Ukrainian and Russian), autonomy for the Donbas region, security guarantees for the sovereignty of Ukraine, and ongoing negotiations on the status of Crimea (seized by Russia in 2014).

Regardless of Schroeder’s claim, this is a reasonable starting point for a peace plan. This would require tremendous political sacrifices on the part of Ukraine, which at least publicly continues to make maximalist demands against Russia. To be clear, Russia has also adopted a maximalist position that would require Ukraine to cede the eastern oblasts (territories) of Donetsk, Luhansk, Kherson and Zaporizhzhia and agree to not join NATO. It is difficult to conceive of an end to fighting and a resolution of the war without Russia achieving some of its aims, primarily a promise that Ukraine will not join NATO and that the Donbas region become either an autonomous zone or part of Russia. Such a ceasefire arrangement sets the stage for peace but would be insufficient for long-term peace and stability.

A stable peace could emerge in several ways, with multiple historical case studies as potential models for what peace could look like.

South Korea after the Korean War is one such model. The Korean War began in 1951 and technically remains in progress — the very definition of a frozen conflict — since the parties involved in the war signed an armistice and not a peace treaty in 1953. The armistice established the Demilitarized Zone (DMZ), which also remains in place. While this arrangement has prevented the outbreak of major war between North and South Korea since 1953, it has not led to a cessation of tensions. Both sides maintain large militaries — and the United States retains almost 30,000 personnel in South Korea — and there have been numerous violent clashes and provocations over the decades. South Korea alleges that the North has committed more than 220 violations of the armistice agreement, though there have been no new deaths on the DMZ since 2010 and casualties have fallen precipitously since the 1970s. This model could be applied to Ukraine, with an armistice rather than a peace treaty and a formal or de facto division of territory. What we are describing is a frozen conflict that has gotten hot on several occasions, with many subversion attempts by North Korea, repeated military incursions by special forces infiltrators and naval forces, and a heavily-mined DMZ to physically separate the two Koreas’ militaries, which remain on constant watch. This would not be an ideal scenario for Ukraine, though it is an improvement on the status quo.

Post-WWII Austria and Finland offer two additional models for a postwar Ukraine. The United States and the Soviet Union debated and strategized the fate of these two countries after the war. Would Austria become a divided nation, as with Germany, with NATO occupying part of Austria and the Soviets the other, with Vienna divided along the same lines as with Berlin? Ultimately, once NATO membership for Austria was taken off the table and a Swiss model of neutrality for Austria was adopted at Soviet insistence, the question became moot. Soviet security concerns were allayed, and Austria remained neutral during the Cold War (it is still not a member of NATO). The country was not divided, nor occupied permanently by either side.

Likewise, there are many parallels between modern Ukraine and Finland after the Second World War: it, too, had an extensive border with the USSR and a distributed population, and it likewise fought a savage war with the USSR in 1939-40 resulting in significant casualties for the Soviets. Finland was forced to cede about 10 percent of its territory along the border with the Soviet Union, but was otherwise allowed to retain its sovereignty and was not occupied by Soviet troops, unlike the rest of Eastern Europe. Throughout the Cold War, Finland maintained a policy of what the West German media pejoratively called “Finlandization,” in which Finland’s foreign policy was subordinated to that of the Soviet Union. Finland did not publicly oppose Soviet foreign policy, it did not seek alliances with the United States or NATO, and it mostly stayed out of questions of foreign policy altogether during the Cold War, a not-inappropriate policy for a small country on the periphery of a larger one that had few to no inherent foreign policy interests of its own.

The Austrian and Finnish examples are more positive and comfortable models for a future Ukraine than that of South Korea.

The United States and NATO cannot force Ukraine to seek peace — only Ukraine can do that — but they can induce significant pressure on Ukraine because without external aid, Ukraine’s ability to continue the grinding war of attrition it is currently undergoing relies on that aid. The United States should insist that NATO membership for Ukraine is off the table; joining NATO is certainly in Ukraine’s best interest, but it is not in the United States’ or NATO’s interest. 

This will be an easy concession to make in peace negotiations with Russia. It goes without saying that the United States should cease sending additional military aid to Ukraine. If the European allies want to — they can certainly afford to — then they are welcome to do so. But the United States should begin working with Ukraine to help it determine what its political future will be. Having Ukraine become a new Cold War-era Austria or Finland is probably the best outcome for a tragic situation.

The Federal Reserve system in the United States is the largest financial institution in the world with more than $7 trillion in assets. It “manages” the most important currency in the world. Its decisions can dramatically affect the course of the largest economy in the world. 

Wouldn’t it be nice if its officials knew what they were doing?

Yet ever since the 2008 financial crisis, the Federal Reserve has more or less been whistling in the dark. After that crisis, it dramatically changed its approach to monetary policy and targeting interest rates. For a decade it struggled with inflation being “too low.” Then, in 2021 and 2022, it had to deal with the forest fire of inflation — a fire still burning in some sectors of the economy.

Three months ago I wrote about the “Ratchet Effect” on the Fed’s balance sheet. In its May 1st announcement, The Fed said it would slow its bond roll-off plan from ~$1 trillion annually to about $600 billion annually. That means, ceteris paribus, that its balance sheet will drop below $7 trillion by the end of this year, $6.4 trillion by the end of 2025, $5.8 trillion at the end of 2026, $5.2 trillion at the end of 2027, and $4.6 trillion at the end of 2028 — finally reaching its pre-COVID level.

Consider how, if the trend of asset growth at the Fed from 2002 – 2007 (~4.4 percent annual growth) had continued, the Fed’s balance sheet at the end of 2023 would have been a modest $1.76 trillion instead of $7.7 trillion. And forecasting out to 2028, would have been roughly $2.2 trillion — less than half where the Fed will be if its current quantitative tightening continues for four more years.

How did we get here?

The entire framework for traditional monetary policy was thrown out the window in 2008 with the Fed’s response to the 2008 financial crisis. Open market operations were no longer used to maintain a target interest rate. In the name of preventing a second Great Depression, then-Fed Chairman Ben Bernanke opened a Pandora’s Box of monetary ills in 2008. And like the Greek myth, there may be no way of putting these ills back in the box.

In March of 2008, markets were uneasy. Housing prices had stalled and began falling in 2007. Mortgage-backed securities (MBS) began falling too. Leveraged financial firms began reporting huge paper losses. Bear Stearns saw its stock price crater from $172/share in January of 2007 to less than $10/share by March 2008, as it faced potential bankruptcy. The Treasury and the Fed decided that Bear should be acquired rather than be allowed to fail.

To persuade JP Morgan Chase to purchase Bear, the Fed agreed to buy ~$30 billion dollars of Bear’s riskiest assets. The Fed was not technically allowed to do this. So it set up a shell company, Maiden Lane, and lent Maiden Lane the money to purchase these assets from Bear. JP Morgan initially agreed to purchase Bear for $2/share but was strong-armed by Bear shareholders to revise the offer to $10/share. Bailing out equity holders departed from the Fed’s ‘lender of last resort’ role.

In the fall of 2008, the giant insurer, AIG, ran into financial trouble. It had written a huge amount of insurance on the prices of MBS in the form of credit default swaps. Under the terms of this insurance, if the price of the underlying MBS fell enough, AIG would have to post collateral. As the entire MBS market plunged throughout 2008, AIG found itself on the hook to post tens of billions of dollars of collateral.

Enter the Federal Reserve Bank of New York. Calling a similar play to the Bear bailout, the NY Fed set up Maiden Lane II, and used it to provide a secured credit line to AIG for up to $85 billion. The terms of the credit line involved taking a majority ownership stake in AIG. This vehicle also purchased MBS from AIG’s subsidiaries. Maiden Lane III was set up for the similar purpose of buying collateralized debt obligations (CDOs). Besides facilitating direct lending to AIG, Maiden Lane II and Maiden Lane III were used to stabilize the prices of MBS and CDOs.

In addition to these lending facilities, the Federal Reserve began buying large quantities of securities directly — not only Treasury securities, but also securities issued by government-sponsored enterprises like Fannie Mae and Freddie Mac. It bought Fannie and Freddie debt instruments. IT also bought large quantities of MBS issued or insured by Fannie and Freddie. Beyond that, the Fed even bought some private-label MBS — again, to support the price of these assets, to reduce paper losses in the financial system.

Besides bailing out specific financial institutions, the Fed wanted to provide even more liquidity directly to the broader market. Rather than banks and money market funds having to mark down or offload their assets at “fire sale” prices, they could sell them to the Federal Reserve or borrow money against them from the Fed at valuations well-above the fire sale market prices.

So, Fed officials created an alphabet soup of liquidity “facilities” to carry out these massive asset purchases: the AMLF (Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility), the CPFF (Commercial Paper Funding Facility), and the MMIFF (Money Market Investor Funding Facility).

This, by the way, was the Fed’s playbook in dealing with the failures of Silicon Valley Bank and Signature Bank in March of 2023. The Fed immediately created a facility, Bank Term Funding Program (BTFP), to lend money to banks against bond portfolios whose market value had plummeted as the Fed rapidly raised interest rates starting in 2022. The BTFP ultimately injected about $400 billion dollars to shore up the banking system.

These liquidity facilities flooded the market with bank reserves, which raised the question: how would the Fed successfully raise and meet higher interest rate targets when the market was flooded with a huge number of reserves?

Under the traditional open market operation framework, the Fed would have to effectively reverse its liquidity creation by selling hundreds of billions of dollars of MBS and agency debt. That action could destabilize financial markets again. Instead, the Fed opted to change its operating framework to a floor system. Congress had given approval to pay interest to banks for reserves held at the Fed — reserves that ballooned in response to the Fed’s asset buying spree.

Interest on reserves raised the opportunity cost (or floor) of banks lending money to one another. Raising the interest it paid on reserves effectively raised the Fed funds rate floor. Changing its interest rate target became a matter of changing the rate of interest the Fed paid banks on their deposits. Only there was one more wrinkle. For these interest rate changes to affect any of the market beyond banks, the Fed would have to engage in similar behavior with all financial institutions, not just banks.

For example, banks would not make loans at 2 percent if they received 3 percent interest on their reserves at the Fed. But non-banks might make loans for 2 percent – unless they, too, had a 3 percent lending alternative. To address this, the Fed increased its use of repo and reverse-repo market. Repo and reverse repo basically mimic the function of the federal funds market, only the transactions are collateralized — involving the temporary exchange of securities — and are open to all kinds of non-bank institutions. Over the past two years, the Federal Reserve has paid over $300 billion dollars in interest on bank reserves alone — not including interest paid on repo transactions.

When quantitative easing flooded the market with bank reserves, interest rate targeting was severed from the size of the Fed’s balance sheet. The Fed could now increase the size of its balance sheet, seemingly without limit, and raise its target interest rate. The Fed began raising interest rates in 2022 with an enormous balance sheet of almost $9 trillion. And it will likely begin cutting interest rates next month without having to change how many assets it currently holds.

This is the brave new world of monetary policy we live in today.

In July 2024, the American Institute for Economic Research’s Everyday Price Index (EPI) rose 0.30 percent to 291.3. With this increase the EPI resumes an upward trend that was broken with a slight decline in June 2024. Since January 2023, our proprietary index has risen fourteen out of the last nineteen months. 

AIER Everyday Price Index vs. US Consumer Price Index (NSA, 1987 = 100)

Among the twenty-four EPI constituents in July 2024, twenty-one rose in price, two were unchanged, and one declined. The sole decline in prices occurred in pet and pet products; rising the most in price were the motor fuel, food at home, and food away from home categories.  

On August 14, 2024, the US Bureau of Labor Statistics (BLS) released Consumer Price Index (CPI) data for July 2024. The month-to-month headline CPI number rose by 0.2 percent, meeting forecasts. The core month-to-month CPI number also increased by 0.2 percent, which also agreed with survey predictions of 0.2 percent. 

In July, the food index rose by 0.2 percent, consistent with the increase observed in June. Within this category, the food at home index inched up by 0.1 percent. Of the six major grocery store food group indexes, three experienced gains while the other three saw declines. Specifically, the index for meats, poultry, fish, and eggs jumped 0.7 percent, driven by a significant 5.5 percent increase in the eggs index. The indexes for fruits and vegetables and nonalcoholic beverages also recorded gains, rising by 0.8 percent and 0.5 percent, respectively.

Conversely, the index for other food at home dropped by 0.5 percent in July, after a 0.5 percent increase in June. Similarly, the cereals and bakery products index decreased by 0.5 percent, while the dairy and related products index edged down by 0.2 percent. The food away from home index also saw a 0.2 percent rise in July, following two months of stronger 0.4 percent increases. Breaking this down further, the index for limited-service meals rose by 0.3 percent, and the index for full-service meals increased by 0.1 percent.

In the energy sector, the index remained unchanged in July, following a 2.0 percent decline in June. The gasoline index also showed no change over the month, although unadjusted gasoline prices rose by 0.8 percent. The electricity index saw a modest increase of 0.1 percent, while the fuel oil index climbed by 0.9 percent. In contrast, the natural gas index fell by 0.7 percent.

Excluding food and energy, the all-items index rose by 0.2 percent in July, slightly up from the 0.1 percent increase in June. Within this, the shelter index grew by 0.4 percent, with rent climbing 0.5 percent and owners’ equivalent rent up by 0.4 percent. The lodging away from home index reversed its 2.0 percent decline in June, rising by 0.2 percent in July.

The medical care index decreased by 0.2 percent in July, after a 0.2 percent rise in June. Within this sector, the index for hospital services dropped 1.1 percent, though the indexes for physicians’ services and prescription drugs both edged up by 0.1 percent. The motor vehicle insurance index saw a significant increase of 1.2 percent in July, following a 0.9 percent rise in June. The index for household furnishings and operations grew by 0.3 percent over the month, with additional increases observed in the indexes for education, recreation, and personal care.

On the other hand, the index for used cars and trucks continued its downward trend, falling by 2.3 percent in July after a 1.5 percent decrease in June. The airline fares index also dropped by 1.6 percent, while the apparel index declined by 0.4 percent, and the new vehicles index slipped by 0.2 percent.

July 2024 US CPI headline & core month-over-month (2014 – present)

In year-over-year data, headline CPI rose 2.9 percent, less than the expected 3.0 percent rise. Year-over-year core CPI rose 3.2 percent, meeting the 3.2 percent prediction.

July 2024 US CPI headline & core year-over-year (2014 – present)

Over the past 12 months, the index for food at home increased by 1.1 percent. Among the categories, the meats, poultry, fish, and eggs index saw a notable rise of 3.0 percent, while nonalcoholic beverages index grew by 1.9 percent. The index for other food at home experienced a more modest increase of 0.9 percent. The index for cereals and bakery products, however, remained unchanged during this period. In contrast, the indexes for both fruits and vegetables and dairy and related products each declined by 0.2 percent over the last year.

The index for food away from home saw a more significant rise, climbing 4.1 percent over the last 12 months. Breaking this down, the index for limited service meals increased by 4.3 percent, and the index for full service meals rose by 3.8 percent during the same period.

The energy index experienced a 1.1 percent increase over the past year. Within this category, the electricity index surged by 4.9 percent as the natural gas index went up by 1.5 percent. The gasoline index decreased by 2.2 percent, and the fuel oil index saw a slight decline of 0.3 percent over the 12-month span.

Excluding food and energy, the year-over-year index rose by 3.2 percent. The shelter index was a major driver, increasing by 5.1 percent and accounting for more than 70 percent of the total 12-month rise in the all items less food and energy index. Other indexes that recorded significant increases over the year include motor vehicle insurance, which surged by 18.6 percent; medical care, up 3.2 percent; personal care up 3.4 percent; and recreation up 1.4 percent.

The positive progress on disinflation over the past three months suggests that the Fed’s goals of price stability and full employment are not at odds, but challenges may surface by the end of 2024. The labor market is expected to cool significantly as the year progresses, and there remains a possibility that certain non-cyclical factors will see the rate of inflation stabilize at a level above the Fed’s 2-percent target later this year or early in 2025.

The resurgence of the “supercore” inflation measure, which excludes housing from core services, indicates ongoing price pressures that could keep the Fed cautious about cutting interest rates as much as some market participants have hoped (as expressed via market implied policy rate markets). In July 2024, supercore rebounded by 0.21 percent after two consecutive monthly declines, although the annual rate slipped slightly to 4.48 percent from 4.67 percent in June. Most categories saw increases in July other than core goods, which have been instrumental in the recent price cooling. A key takeaway from the latest CPI data is that housing costs continue to drive inflation higher. Some economists had forecast that substantial rent increases would have eased by now, but the numbers suggest that the housing inflation story isn’t over yet. 

Despite this, it is quite likely that the Fed will proceed with a rate cut at its September 17 – 18 meeting. Speculation will now likely shift toward the size of that rate cut, yet with several more inflation, unemployment, consumption, and other reports due before the next Fed meeting, such projections currently lack substantive value.

In his self-searing memoir, Late Admissions: Confessions of a Black Conservative, Glenn C. Loury tells all in only the way he can. Loury’s singular journey from precocious young boy in Chicago’s South Side to one of the nation’s sharpest social critics doesn’t fit with many of the success narratives remarkable thinkers tell about themselves. You see, Loury’s account is brutally honest. From engaging in multiple extramarital affairs to smoking crack cocaine in his Harvard office, Loury doesn’t withhold the kind of details one might have if he wanted to present a more sanitized account of his life and career. And as he luridly shows, the challenges and personal temptations that emerged from childhood have haunted him ever since.

Loury was born in Chicago in 1948. After his mother shuffled him and his sister to different homes and put her other children up for adoption, Glenn’s aunt, Eloise, vowed to unite the clan under her roof. Aunt Eloise’s house in Park Manor, where little Glenn and his sister lived in an attached apartment with their mother, typified the stylishness and respectability that many in Chicago’s South Side exuded. Despite the difficult circumstances, these outward appearances symbolized the hopes and ambitions of black Americans seeking to pave their way to prosperity.

Throughout his memoir, Loury presents the reader with two versions: the cover story and the real story. Referring to the house he grew up in, “It is true,” he writes, “that Eloise’s house was a monument to an ideal for living.” However, “it is also true that in that house, our friend Boo-Boo’s father, a man suffering from mental illness and alcoholism, shot himself in the head as my horrified, helpless mother looked on.” Such stories illustrated the stark contrasts that defined black America in the 1950s and 1960s, when personal ambition often clashed with deep-set traumas that were never easy to shake.  

While struggling to pass his classes at a high-performing academy, he discovered that his girlfriend, Charlene, was pregnant. Soon, he dropped out of school and began working as a timekeeper at a printing plant. Not long after, Charlene gave birth to their second child, and Loury found himself in a situation resembling many of his own family’s struggles.  

Loury eventually returned to school, where he excelled in mathematics, earning him a scholarship to Northwestern. At this time during the late 1960s and early 1970s, Northwestern boasted one of the nation’s leading economics departments, where new mathematical and econometric techniques were being pioneered. Soon, Loury was admitted to the Massachusetts Institute of Technology, thanks to his success at Northwestern and his special mathematical abilities. At MIT, the economics profession was being reinvented. Nobel laureates Paul Samuelson, Robert Solow, Franco Modigliani, and Peter Diamond, among others, were revolutionizing the field, and Loury would have a front row seat.

Loury’s dissertation quickly earned him a place as one of MIT’s budding stars. “Essays in the Theory of the Distribution of Income” employs innovative mathematical techniques to demonstrate the importance of social networks (family, friends, etc.) in building critical labor market skills and traits. As Loury explains, “My idea is that human development is not just transactional. It’s not just people buying stuff in the marketplace. It’s also relational. It’s people interacting with one another inside networks.” These insights catapulted him into the upper echelon of the economics profession, and placed him in the center of the debate over race and inequality in America.

After a brief stint at Northwestern following his PhD, Loury began teaching and researching at the University of Michigan, where he expanded on his cutting-edge work exploring the intersection between social capital and racial disparities. He soon began traveling across the country giving lectures and consulting with representatives from the natural gas industry. But as Loury’s career took flight, his inner demons manifested themselves in ever less subtle ways. He started to invite companions with him to his meetings, searching for clever ways to obscure his infidelity to his girlfriend Linda. The more he engaged in deceitful activities, the easier it became for him to surrender to his passions.

After much consideration, Loury accepted an offer to teach at Harvard, becoming the first black tenured economics professor in the school’s history. The pressure to perform, combined with an expectation to solidify a unique identity, pushed him away from the economics department and into Harvard’s Kennedy School, where he could pursue a wider range of topics without the competitive intensity that infamously pervaded Harvard’s economics faculty.  

A stark paradox emerged from Loury’s newfound role as a conservative pundit on race. He could, for example, skewer many in the black community for their lack of personal responsibility, as he surfed a dark alley for some late night action. Whether he realized it or not, Loury’s private actions began to reflect the very patterns he publicly scrutinized in America’s black communities.

In the mid-1980s, Loury’s personal issues only escalated. He was embroiled in scandal after one of his lovers accuses him of assault (the charges are later dropped). To make matters worse, an affair intensified with a new love: crack cocaine. Pretty soon, Loury was thinking about how to procure and smoke the drug, but oddly enough, his research was rarely affected. Eventually, he was arrested and booked for drug possession, putting his Harvard position on thin ice.

After hitting rock bottom, he finally admitted himself into rehab, and then a halfway house, where he not only addressed his addiction, but his fixation with an overinflated ego he slowly built by flaunting all the rules. Slowly, he supplemented the rigidities of AA with the spiritual nourishment of Christianity. It would take many years, but Loury’s lifelong search for his own identity would be tied up in the very people he neglected: his family and community.

Through all his trials and relapses, Loury’s wife, Linda, stood by his side. And in 2003, when she was first diagnosed with cancer, he would stay with her until the very end. Linda Datcher Loury, a respected social economist in her own right, was the anchor that Loury so desperately searched for, and finally found. Cleaning out her office, he stumbled upon one scribbled book, with highlighted sections that clearly applied to his own transgressions. “She made a study of forgiving me,” he reflects.

Late Admissions is not an intellectual autobiography. It’s much more. It’s an open book. A personal odyssey of an economist who battles the very challenges he studies. Economists often get lost in abstractions. The theories of human behavior prove so alluring that economists lose focus of the real world. By coming to terms with himself, Glenn Loury gains a deeper understanding of the challenges and opportunities facing the same communities in which he was raised.

Where many economists model the world, Loury’s revealing admissions animate it. He shows that what makes a good economist or intellectual is their willingness to appreciate the very human qualities that drive the social sciences.

Concluding the book, he writes:

I cannot defeat the enemy within, not entirely. To do so would be to defeat myself; to deny my true nature. For now, we hold an uneasy truce, one that requires long negotiations to maintain. I have my strategies. But the game never ends.

Loury’s acceptance of his limitations is his greatest strength. Late Admissions is more than an economist’s confession. It’s a reflection of the triumphs and challenges we all experience. 

After slight deflation in June, prices once again ticked up in July. The Bureau of Labor Statistics reported that the Consumer Price Index (CPI) rose 0.2 percent last month, for a year-over-year increase of 2.9 percent. Core CPI, which excludes volatile food and energy prices, also rose 0.2 percent on the month, and has risen 3.2 percent year-over-year. 

The annualized monthly inflation rate was 1.9 percent in July. The annualized monthly core inflation rate was 2.0 percent. Taken together,  inflation appears to be in line with the Federal Reserve’s official 2-percent target.

Shelter prices saw the largest increase. They rose 0.4 percent on the month, “accounting for nearly 90 percent of the monthly increase in the all items index.” The estimated increase in the shelter component of CPI, however, likely reflects price pressure from a year or more ago. As Treh Manhertz at Zillow shows, “annualized changes in shelter CPI can remain elevated long after rent price growth cools.”

Using the latest inflation data, we can ascertain the stance of monetary policy. The Fed’s target range for its main policy interest rate is 5.25-5.50 percent. If market participants expect 1.9 percent inflation, in line with the July headline inflation rate, the implied real interest rate target range is 3.35 to 3.6 percent. If they expect 2.0 percent inflation, in line with the July core inflation rate, it is 3.45 to 3.7.

Is the Fed’s interest rate target too high, too low, or just right? We need to compare our estimates of the implied real interest rate target range to the natural rate of interest, which is the price of capital that balances supply and demand in short-term capital markets. We can’t directly observe this rate; the best we can do is estimate it. The latest estimates from the New York Fed put it somewhere between 0.70 and 1.18 percent. Hence, the Fed’s interest rate target range appears to be much higher than the natural rates. Unless the estimates are totally divorced from reality, interest rates suggest money is quite tight.

We also must consider monetary data. The M2 money supply, which is the most commonly cited monetary aggregate, grew 0.87 percent over the last year. It grew at an average annual rate of 5.4 percent over the five year period just prior to the pandemic. Divisia aggregates, which weight money supply components based on their relative liquidity, rose more. Divisia M3 grew 1.30 percent over the last year, compared with 4.5 percent on average over the five years prior to the pandemic. Divisia M4 (including Treasuries) grew 2.10 percent, compared with 4.7 percent in the earlier period. Hence, both simple-sum and Divisia monetary aggregates are growing at historically low rates.

To judge whether monetary policy is loose, it is not enough to show that monetary aggregates are growing at historically low rates. What matters is whether the money supply is growing faster than money demand. As with the natural rate of interest, we do not directly observe money demand. Nonetheless, we can create a proxy for money demand by summing real GDP growth (3.1 percent) and population growth (0.5 percent). That proxy suggests money demand is plausibly growing at around 3.5 – 4.0 percent per year, which is much faster than all of the above money supply figures. Hence, monetary data says money is tight, too.

The Federal Open Market Committee (FOMC) next meets in September. They should seriously consider cutting their interest rate target. Although inflation was higher in July than in June, it was still in line with the Fed’s target — and arguably below target once one accounts for lagging shelter prices. Yet, while inflation has declined over the last year, monetary policy has passively tightened: the Fed’s fixed nominal interest rate target over this period corresponds to a rising implied real interest rate target. If monetary policy remains tight, it could result in a significant economic contraction. To avoid a recession, the Fed should acknowledge it has finally (albeit belatedly) whipped inflation, and bring monetary policy back in line with economic fundamentals.

In an essay published recently by American Compass, long-time protectionist Michael Lind defends the Biden administration’s 100 percent tariffs on electric vehicles (EVs). In pushing this defense, Lind rhetorically asks “other than the obnoxiously anonymous lead writers at The Economist and a few libertarian dead-enders, who really believes that China’s crushing of the American EV industry would be a ‘free market’ outcome that enhances American prosperity?”

Overlook Lind’s apparent unawareness that the editorials of many premier publications — including the New York Times, Washington Post, Financial Times, and Wall Street Journal — are, and have long been, written anonymously. In this matter The Economist isn’t unique. Let’s focus instead on the substance of Lind’s claim, which is this: Only benighted free-market ideologues could possibly believe the lunatic notion that the US government should not protect US-based EV producers against subsidized competition from China — competition that would, absent such protection, crush the EV industry in America.

Although I must plead guilty to being among the “few libertarian dead-enders” who Lind holds in such contempt, the argument against EV protection isn’t remotely as deserving of contempt as Lind seems to think.

To minimize confusion — a goal, it seems, that’s shared by distressingly few protectionists — let’s separate arguments for protectionism to improve the performance of the American economy from arguments for protectionism to improve national defense. And let’s begin with the former, as economic performance is the chief concern not only of Lind in particular but of protectionists generally.

Here’s the strongest case for protecting American EV manufacturers; it’s got three parts.

1) All Chinese EV manufacturers are less efficient at producing electric vehicles than are all American manufacturers.

2) Beijing’s subsidies to Chinese producers allow them nevertheless to sell so many EVs in the US that too little demand remains for American-made EVs, thus forcing American producers to abandon the field.

3) Beijing’s subsidies never enable Chinese-based EV producers to produce as efficiently as could the now-defunct American-based EV producers. This third assumption is necessary in order to ensure that the first assumption remains valid.

How would Americans be harmed if, under these conditions, the US government maintained a strict policy of free trade with respect to EVs? Lind and other protectionists likely think that the answer to this question is obvious; they’ll say that Beijing’s subsidies destroyed in America an industry for which Americans have a comparative advantage. In this answer they’ll be correct. But this answer is irrelevant to the policy question.

Although, by assumption, the Chinese here incur higher costs to produce EVs than would Americans, the people who pay these costs are exclusively the Chinese people. Beijing’s subsidies enable Americans to get EVs on the cheap, and the economic consequences to Americans are identical to what the consequences would be were Chinese producers ‘naturally’ more efficient than Americans at producing EVs. If there would be no complaints from Americans about unsubsidized Chinese-made EVs being sold in America, there should be no complaints from Americans about subsidized Chinese-made EVs selling in America.

I can predict Lind pouncing with this retort: “Gotcha! As soon as American producers abandon the field, the Chinese will raise the prices of their EVs to monopolistic levels. We’ll then be sorry that we didn’t protect American EV producers.”

Maybe. In our incredibly complex world many different outcomes are possible. The relevant question, however, is: Is this outcome likely? And the answer is: No; it’s highly unlikely. 

First, firms in free markets retool to take advantage of the profit opportunities created when other firms behave monopolistically, so a Chinese EV monopoly in the future is unlikely to be so long-lived as to justify protectionism in the present. Put differently, the additional sums that Americans would certainly pay today as a result of tariffs would likely be greater than the additional sums that Americans might pay tomorrow if the Chinese obtain — and choose to exploit — a temporary monopoly at supplying EVs.

Second, for the Chinese to be able to raise their EV prices to monopolistic levels, EV production would have to have been abandoned not only by all American producers, but also by EV producers in Europe, Japan, Korea, and everywhere else in the world but China.

As long as Americans maintain a free-trade policy toward EVs, the Chinese, to be plausibly in a position to charge monopoly prices for EVs in America, would have to monopolize sales of EVs not just in the US, but globally. Achieving this outcome would require massive, long-running subsidies. And remember, by assumption Chinese EV producers remain inefficient, so the subsidies would have to continue indefinitely. For the Chinese people, this policy would be a sure economic loser.

The protectionist response is predictable: ‘No matter! We can’t take that chance! We must counteract Beijing’s subsidies with high tariffs.’

This response would be worthy of serious consideration if serious thought went into it. But, alas, that’s not the case. Protectionists who offer this response fail to understand the trade-offs that are at hand because they fail to ask important questions — questions such as these:

– Protectionist subsidy of American EV producers necessarily diverts resources away from other industries in the US; what is the value of the production that declines in America because of EV protection? Do we have good reason to believe that the value of this foregone production is less than is the value of what we gain by protecting EV producers?

– Beijing’s subsidization of Chinese EV producers necessarily diverts resources away from other industries in China, which particular industries in China suffer as a result of this subsidization? Might it be the case that the resources poured by Beijing into EV production would instead have been used, in the absence of such subsidization, to fortify other Chinese industries that compete with American producers? Therefore, might Beijing’s EV subsidies weaken other Chinese industries that would otherwise be effective competitors of American producers? The free trader is untroubled by the prospect of this competition from other Chinese industries, but the protectionist — to remain consistent — cannot be untroubled. The protectionist must admit the possibility that Beijing’s EV subsidies weaken what would otherwise be Chinese competition in non-EV industries — a weakening that, according to protectionist logic, is good for America. Yet the protectionist who argues that Beijing’s EV subsidies require protection of American EV producers has given no thought to the Chinese industries that, because of those subsidies, become less effective competitors in America.

These arguments will not divert determined protectionists from their position. Protectionists will continue to present abstract and remote possibilities as if these are concrete and likely enough to occur to warrant government intervention. But the open-minded person wisely realizes that good policy-making focuses on that which is likely and avoids being obsessed with that which is extremely unlikely.