A longtime finance industry friend with +30 years on the clock recently asked us “what was the history of US inflation before and during the runup of the 1970s/1980s and what can that tell us about today?” This is an important topic given current levels of monetary and fiscal stimulus. It is a large topic as well, so we’ll start the discussion today and continue it next week.
Here is the data we’re going to consider: annual changes in the US Consumer Price Index from January 1960 to December 1982. We’ve highlighted January 1968’s 3.6% inflation rate both to provide some sense of scale (the peak in March 1980, right hand side of the chart, was 14.6%) as well as to mark a notional lift-off date for US inflation.
Three things pop out from this graph:
#1: The first half of the 1960s never saw US inflation hit even 2 percent.
#2: Four things changed in the late 1960s/1970s.
- First, President Johnson’s Great Society programs added significant fiscal stimulus.
- Second, the Vietnam War heated up, which was essentially fiscal stimulus in the form of purchases of military goods and services.
- Lastly, President Nixon took the US off the last vestiges of the gold standard in mid-1971 which meant neither fiscal nor monetary policy’s impacts on the value of the dollar were constraining issues any longer. While his administration enacted wage and price controls at various points through 1974 (visible right in the middle of the graph above), these were largely unsuccessful and unpopular.
- In 1978 Congress passed what we all call the Humphrey-Hawkins Act, but its actual name was the Full Employment and Balanced Growth Act. No points for guessing which part of that mandate the Fed had thought (and continued to think) was more important.
#3: Then the US saw 2 oil shocks: the first in October 1973 due to an OPEC oil embargo against the west for its backing of Israel in the Yom Kippur war, and the second in 1979 – 1980 from first the Iranian Revolution and shortly after its war with Iraq. The effect of each event’s impact on US inflation are clearly visible above.
The story after this period you know: Paul Volcker, rightly sensing that Americans were assuming ever-higher prices were just a fact of life, set about lifting interest rates to tame inflation. His strategy worked, and ever since then markets have assumed central banks understand how to contain inflation even if their track record creating it remains questionable.
The upshot of this 30,000-foot view of inflation in the 1960s – 1970s is that many, many factors created the chart you see above. Expansionary fiscal policy, check. A central bank more interested in its employment mandate than managing inflation, check. A dramatic shift in global currency market structure, check. Geopolitical/energy shocks, check (1973) and check (1979).
We’ve included a link to a useful Federal Reserve paper titled “The Great Inflation” just below if you’d like a deeper dive on this topic, but let’s finish with a thought about how we might use the 1960s – 1970s experience to pick our way through the next 12-24 months:
- Pretend the image above is a stock price chart rather than CPI inflation.
- Look at that breakout which started 18 months before the highlighted level of 3.6 percent in January 1968.
- If it were a stock, you’d probably have bought it on that mid – 1968 move to new highs, knowing “something” had changed in the story. And if you watched both fiscal and monetary policy ignore rising inflation, you’d likely have held on to this “inflation stock” all the way to Volcker’s nomination in 1979.
The takeaway is 1) inflation suddenly breaking out of a long pattern of quiescence is the first thing to look for, followed by 2) inaction on the part of policy makers. That’s the playbook if you’re worried about inflation. More on this topic next week…
Fed History Paper: https://www.federalreservehistory.org/essays/great-inflation#