Opinion Editorial | |
| Monday, March 16, 1998 | |
Federal Reserve Should Ignore the Monetarists |
On March 17, there was an interesting juxtaposition of articles in the Wall Street Journal about the outlook for inflation. On page one was an article about the declining price of oil, which has reached a 12-year low of about $13 per barrel. A year ago the price was over $20 per barrel and in 1981 was over $35 per barrel. The Journal article indicated that despite the falling price, oil companies were still able to make money drilling new wells because new technology has dramatically lowered their costs. Historically, the price of oil has been viewed as a major factor affecting inflation. The sharp rise in oil prices during the 1970s, for example, undoubtedly contributed to double-digit increases in the Consumer Price Index. Therefore, a decline in oil prices should have the opposite effect, reducing the inflation rate. Yet on page two of the Journal was an article saying that a group of economists called the Shadow Open Market Committee recommends that the Federal Reserve tighten credit and raise interest rates in order to control inflation. Lower energy prices, they said, are simply obscuring the fundamental inflationary forces that are still at work. The true cause of inflation, they say, is growth of the money supply, which they believe is presently too fast for price stability. The idea that money growth is the sole cause of inflation is known as monetarism and in principle the monetarists are right. The problem, however, is that there is no way of knowing exactly what rate of growth of the money supply is correct. Economic growth, investment, labor supply and the demand for money are just a few of the variables that can make some particular money growth rate inflationary at one time and deflationary at another. For this reason, few economists now consider themselves to be monetarists. Determining the right noninflationary monetary policy involves looking at many variables, not just the money supply. Today, most of these other variables are signaling lower inflation, not higher inflation. Among these are futures prices for commodities such as oil, the strong value of the dollar on international markets, solid productivity growth and falling long-term interest rates. Because of the clear noninflationary trend shown by these indicators, the National Association of Business Economists has lowered its estimate of inflation in 1998 from 3 percent a year ago to just 2 percent today. The monetarists are still fighting the last war -- the inflation of the 1970s -- and ignoring all the evidence contrary to their position. Following their advice would risk a recession. The Federal Reserve should reject it. Source: Bruce Bartlett (senior fellow, National Center for Policy Analysis), March 23, 1998.
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