Federal Reserve Chair Janet Yellen testifies about the economy before the Joint Economic Committee of Congress.(AP Photo/Charles Dharapak)
Federal Reserve Chair Janet Yellen testifies about the economy before the Joint Economic Committee of Congress.(AP Photo/Charles Dharapak)

The felicitous first rule of forecasting is "a date or a number, but never both." The point being that if you want to preserve credibility it is best not be proven wrong; the rule pretty much assures that.

Ok, so you ask, "what has this got to do with the NAU (New Age of Uncertainty)?

The answer is that the blogosphere is buzzing with posts about a recent contribution by Alan Metzler in the Wall Street Journal, here, on the incipient risks of much higher inflation from the Fed's quantitative easing. The tone of the article is similar to the dire warnings issued almost five years ago in the depths of the global financial crisis. How did those predictions fare? Well, years later, the Fed continues to struggle to bring inflation up to its target. To repeat: the Fed struggles to bring inflation up to its target level.

Professor Metzler is careful not say when exactly or to what level inflation will rise. And to be sure, there is no doubt that his prediction of higher inflation will prevail. That is the benefit of the “date or a number, but never both” rule. The question is whether it will be in 2015, 2020, or 2025 and if inflation will peak at 2, 5 or 50 percent. In any event, in the short term at least, the problem isn't that inflation will rise: some increase would likely reduce the risks associated with possible shocks that could drive the economy into deflation.

More specifically, the criticism that can be made of professor Meltzer is that he looks at price increases of some goods and sounds the alarm. At any point in time, prices of some goods will be rising, prices of some goods will   be broadly stable and some goods prices will be falling. To pick out rising food prices, say, and declare that they presage a general increase of uncontrolled, or uncontrollable, inflation is premature to say the least.

So, what has inspired professor Meltzer to issue his (not quite) apocalyptic warning of future inflation?

Frankly, I'm not sure, but I'd be willing to bet that underlying the jeremiad on inflation is an underlying concern about the huge reserves that commercial banks have accumulated. Rather than lend those funds out, banks are sitting on reserves. A similar response was observed in the Great Depression and it led to aphorism that monetary policy can't "push on a string." That is, the monetary policy transmission mechanism wasn't operating; or as Keynes put it: the economy was having "magneto troubles." The worry is that, at some point, all those reserves will be utilized, resulting in much higher inflation. That might be a legitimate concern if advanced economies were operating at or beyond full capacity and the central banks had no way to neutralize the impact. But, remember, all those bonds that the Fed is accumulating through quantitative easing can be sold back to the public; when it does, inside money will contract.

Central bank purchases of government debt can indeed lead to higher inflation and, in the extreme, hyperinflation. But that is in the context of large, unsustainable fiscal deficits. That is not the case in the U.S. The danger of a premature shift in monetary policy, in contrast, risks a repetition of the policy errors of 1937, when in response to encouraging signs of recovery from the Great Depression policy tightened too early and unemployment once again increased.

In the current context, I worry that such a scenario could lead to protectionist policies designed to protect domestic employment. Such policies would increase the challenge of preserving the global economy as an engine of growth and development in the New Age of Uncertainty.

The opinions expressed in this article/multimedia are those of the author(s) and do not necessarily reflect the views of CIGI or its Board of Directors.
  • James A. Haley is a senior fellow at CIGI and a Canada Institute global fellow at the Woodrow Wilson Center for International Scholars in Washington, DC.