Inflation hawks are having their first moment in decades. The latest jobs report showing a monthly gain of 266,000 jobs compared to a median estimate of one million jobs was the largest forecast miss to the downside on record. While predictions were for an annual increase in the consumer price index (CPI) of 3.6 percent, the April number ended up being 4.2 percent, the highest annual spike since 2008. The data today are not indicative where the economy is heading tomorrow. Federal Reserve Vice Chair Richard Clarida said, “This was an unprecedented shock, it led to an unprecedented collapse, and we may have an unprecedented recovery.” But politics and policy often happens in the face of an unprecedented future, with the expectations game playing a key role on where fiscal and monetary policy goes.
Democrats: Keep Calm and Carry On
The White House and Democratic leadership are in “don’t overreact, don’t panic” mode over the latest economic data as they continue to push a big legislative agenda of the American Jobs Plan (AJP) and American Families Plan (AFP). The White House is framing the AJP and AFP as long-term economic investments to deal with structural problems with the economy, rather than short-term stimulus like the $1.9 trillion American Rescue Plan (ARP) that was meant to turbocharge (or overheat) the economy.
The White House is also indicating that it’s the primary role of the Federal Reserve to tap the brakes with monetary policy if the economy is overheating, rather than a curtailing of fiscal policy. Treasury Secretary Janet Yellen made headlines this month when she said, “It may be that interest rates will have to rise somewhat to make sure that our economy doesn’t overheat.” But just as notable was her continued defense of a robust fiscal policy, even in the face of potential overheating.
There’s also no second-guessing the passage of the ARP and Democrats continue to vigorously defend it. One of House Speaker Nancy Pelosi’s (D-CA) favorite lines is that Republicans “Voted No, Took the Dough” referring to Republicans who have touted provisions of the ARP despite voting against it. This is a reminder from Pelosi to hesitant rank-and-file members on further big-spending bills that what they are pushing now is popular. While the GOP may be messaging against it, they also won’t hesitate to take credit if it’s popular, indicating that this isn’t a poisonous vote for one’s electoral prospects.
Democratic leadership knows they could very well lose control of Congress after the midterm elections, making this the one opportunity in perhaps a generation to get long-standing Democratic priorities passed. Democrats curbed their ambitions in 2009 and 2010 to appease moderates to no avail in the “shellacking” of the 2010 midterms. Democrats are not going to go all out in trying to pass the AJP and AFP if it’s politically toxic. But in an era of political polarization and steady approval ratings, there’s no indication as of now that Democrats will curb their ambitions to pass relatively popular legislation due to inflation concerns.
Speaking towards Biden’s approval ratings, there’s always the risk he has a President Hoover moment, who is famously credited for saying, “Prosperity is just around the corner” at the onset of the Great Depression. As economic recovery takes greater focus than the pandemic, Biden’s top polling issue — the handling of the pandemic — loses its potency as the country shifts to issues Biden does not poll as well on. That being said, Biden does have a net positive economic approval rating at 52.3 percent, nearly matching his share of the two-party vote in the 2020 election. His economic approval also largely matches Trump’s economic approval rating throughout his presidency.
Republicans: Panic at the Disco
On the other side of the aisle, congressional Republicans see the latest economic data as an opportunity to move past the January 6th insurrection. As intraparty strife could potentially move some GOP voters away from the party, Republican leaders in Congress believe the economic alarmism is good messaging to rally the base of the party that is critical in lower-turnout midterm elections. Early signs point to the Republican base being more politically engaged than the Democratic base. But as this year (plus the last four) has so far shown, message discipline is difficult when President Trump has his own agenda that does not overlap with congressional Republicans. Trump is expected to ramp up his visibility in the coming months and has not let go of his false claims that the election was stolen from him.
Back in the 1970s, Republicans were effective in employing the “Misery Index” that measured the annual inflation and unemployment rates as a messaging tool against President Carter. The challenge for Republicans today is that 57 percent of voters in 2020 were either not born or too young to vote in the 1976 or 1980 elections defined by years of stagflation. Many of these voters did not come of age during Reaganomics but during a period of persistently low inflation. A majority of Americans continue to believe the government should do more to solve problems rather than leaving it to businesses and individuals.
While Republicans have a rocky relationship with the business community over non-economic issues, the latest developments underscore the natural alliance between the two. The US Chamber of Commerce called for the government to end the extended UI benefits and is campaigning against Biden’s proposed tax increases. At least 22 states, all with Republican governors, have opted out of the federal UI program in a response to the latest economic data. When it comes to taxes, House Minority Leader Kevin McCarthy (R-CA), who previously said he no longer is seeking the Chamber of Commerce’s endorsement, noted after a meeting at the White House this month, “You won’t find any Republicans who are gonna go raise taxes. I think that’s the worst thing you can do in this economy.”
In Fed We Trust?
Similar to Democrats, the Federal Reserve is echoing the sentiment that the latest economic data points are “transitory” and not expecting to result in a trend requiring immediate action. But while the Democratic messaging is more to rally the Democratic agenda, the Federal Reserve’s messaging is to rally the entire economy.
According to the latest meeting of the Federal Open Market Committee (FOMC), the Federal Reserve is waiting for “substantial further progress” towards their dual goals of full employment and inflation averaging two percent over the long-term before making changes to interest rates or its $120 billion in monthly bond purchases. This evidence-based approach is a major change in monetary policy from the last forty years where actions by the Federal Reserve could be characterized as being vigilant against inflation and preempting any rise.
This paradigm shift is lauded on the left for helping the economy run hot to help with employment, but it has led to criticism elsewhere. Larry Summers, who was once the pinnacle of Democratic economic thought but has been pushed aside by the progressive left (including for the Fed chair position back in 2013), has characterized the Federal Reserve’s position as “dangerous complacency.” Channeling previous economic thought, Summers has said, “The traditional role of the Fed is to remove the punch bowl before the party gets good, right? They have announced that their new policy is to remove the punch bowl only after they have clearly seen a number of people staggering around drunk.”
Of course, the Federal Reserve is supposed to be immune from political pressure, but Federal Reserve Chair Jay Powell is looking out for his own future. His four-year term ends next year and he is interested in being reappointed. The most politically astute Fed Chair since Alan Greenspan, Powell has earned plaudits from the left and right. Having an expansionary monetary policy is unlikely to hurt his standing with Biden in the near term. While Powell hasn’t met directly with Biden, one senior Democrat was quoted as saying, “I can’t imagine that once they get in the room together that Biden is going to be the first person in history who does not immediately like Jay Powell. Because it’s impossible not to like him. Biden is going to have a very hard time firing him.” Fed chairs are historically reappointed, with President Trump breaking that tradition by replacing Janet Yellen with Powell. A decision will be made later this year, but Biden will have to determine whether to reappoint Powell or accede to certain pressures from the left to nominate someone with more diverse characteristics to lead the Fed.