The Marginal Revolution Podcast
Episode: 1970s Inflation: The Economic Fever That Changed America
Hosts: Alex Tabarrok [A] & Tyler Cowen [B]
Date: September 20, 2024
Episode Overview
In this lively episode, Alex Tabarrok and Tyler Cowen turn their economic expertise and trademark wit to the tumultuous economic landscape of the 1970s—an era infamous for soaring inflation, fiscal experimentation, and pivotal shifts in monetary norms. Together, they dissect the origins of 1970s inflation, debate the role of Keynesian economics, revisit the demise of the gold standard, explore political influences on central banking, and compare lessons from the past with current inflation experiences. The dialogue is packed with historical context, critical analysis, and a few light-hearted jabs.
Key Discussion Points & Insights
1. Setting the Stage: The 1970s as an Economic Turning Point
- Inflation’s Scale: By 1974, U.S. inflation hit 12.5%, peaking around 15% by decade’s end.
“The 1970s is an especially interesting decade to me because it seems to be the time when we Americans just did everything wrong.” – Tyler [00:42]
- Broader Turmoil: Economic woes coincided with political crises (e.g., presidential resignation, productivity slump).
2. Milton Friedman, the Public, and Wrong Predictions
- Friedman’s Pessimism: Milton Friedman, in a 1979 paper, predicted inflation would only be curbed at 25%, which proved false.
“A lot of this podcast today will be about incorrect predictions. But what was it Milton got wrong?” – Tyler [01:15]
- Public Intolerance: Alex contends the general public hated inflation far more than economists anticipated, providing crucial resistance.
“The thing pushing back was really the public.” – Alex [01:35]
3. Causes of 1970s Inflation: Fiscal Expansion and Policy Innovations
- The “Keynesian Revolution”: Alex attributes inflation to politicians’ embrace of Keynesian fiscal policy, especially the Kennedy and Johnson tax cuts, abolishing the myth that deficits are inherently inflationary or immoral.
“Then along comes Kennedy...He brings the new economics to the White House...one of the big goals of the new economics was to get rid of the taboo on deficit spending.” – Alex [03:01]
- Loss of Fiscal Discipline: Instead of true countercyclical policy, politicians simply favored perpetual spending and tax cuts.
- Political Cycles: Politicians’ incentives clashed with sound economic theory; raising taxes or cutting spending proved politically impossible.
4. The Collapse of Bretton Woods & the Move to Fiat Currency
- Systemic Shift: The demise of Bretton Woods and the gold-backed dollar allowed for more flexibility—but also more inflation—rooted in political decisions, not accidents.
“You got rid of the prudence and frugality, and then you got rid of the gold standard...that was like the second fence, which was eliminated.” – Alex [07:53]
- Global Liquidity: The world’s need for dollar supply (T-bills as reserve assets) drove U.S. deficits, with some arguing this was inevitable for global finance.
5. Political Pressure on the Federal Reserve
- Nixon & Arthur Burns: Nixon’s political management of Fed Chair Burns exemplified how central bank independence could be manipulated or overridden.
“Nixon jokes...‘I respect his independence. However, I hope that independently he will conclude that my views are the ones that should be followed.’” – Alex [13:01]
- Central Bank Independence as Myth & Ideal: There’s debate about whether the U.S. ever had a truly independent central bank before the late 20th century, and whether such independence is ever more than a fragile norm.
6. The Safe Asset Debate
- T-Bills & Alternatives: Tyler and Alex debate whether government-issued T-bills are unique as safe assets or if private finance could suffice.
“I have no doubt that our incredibly innovative and evolutionary financial system will create safe assets in abundance, if that is what the market demands.” – Alex [16:38]
7. Inflation’s Immediate Causes: Monetary and Fiscal Side
- Sumner’s Take: Tyler invokes Scott Sumner; the Fed let nominal GDP and the money supply grow too fast, abetted by fiscal policy changes (e.g., abandoning gold backing).
“If you look at demand for money in the early to mid-60s, it's not that stable. It's not actually fitting the Friedmanite model.” – Tyler [22:50]
- Disagreement over Inevitability: While Tyler sees the gold standard collapse as an inevitable root cause, Alex frames it as a political (and ultimately, negative) choice.
8. Supply Shocks: Energy Crises
- Both agree that the 1973 and 1979 oil crises contributed, but that inflation started before these events and supply shocks alone can't explain persistence.
“Inflation began before the supply shocks. So the energy crisis contributed in the short run.” – Alex [20:38]
9. Economist Blunders: Wage-Push & Cost-Push Fallacies
- Wage Push Theory: Tyler criticizes 1970s Keynesians (Samuelson, Tobin, et al.) for blaming wage demands and cost-push dynamics, rather than monetary factors.
“The whole idea of the cost push inflation seems crazy to me...Which one is cost? When, which one is pushed?” – Alex [22:15]
- Expectations Muddle: The Keynesians likely overcomplicated expectations, overlooking more systemic price interconnections.
10. Modern Comparisons: Recent Inflations & Different Outcomes
- Reduction Without Pain: They note that post-pandemic inflation (2021–2022) fell from 8.9% to about 3%—with little unemployment spike—unlike the brutal early 1980s Volcker recession.
“We managed to do that without an increase in unemployment.” – Alex [26:27]
- Possible Explanations: Anchored inflation expectations and unique pandemic-related factors are offered as reasons for the less painful adjustment.
11. Inflation, Expectations, and the Vibes
- “Vibes” Matter: The 1970s felt more perilous and chaotic, with fears of American decline affecting expectations and public sentiment.
“In our sophisticated discussion, we can talk about expectations. In an unsophisticated discussion…we can talk about the vibes.” – Alex [31:19] “The vibes were better this time than in the 1970s.” – Alex [31:31]
- Historical Anxiety: Tyler recalls firsthand how, in the ‘70s, there was widespread genuine fear of permanent U.S. decline.
12. Final Takeaways & “Bottom Lines”
- Alex: The abandonment of balanced budgets and fiscal myths led to persistent deficits and political business cycles, not stabilization.
“…abandoning balanced budgets doesn't lead to countercyclical fiscal policy...but rather to political business cycles, bigger governments and perpetual deficits.” – Alex [33:07]
- Tyler: Some bad outcomes (inflation, deficits) were inevitable or even necessary (especially after Bretton Woods), but the question is whether better moderation was possible.
“…a bunch of things that are bad are sometimes inevitable. And the key questions are, can we get some more moderated versions of these things?” – Tyler [34:30]
Notable Quotes & Memorable Moments
-
On the Culture of Deficit Spending:
“Kennedy, the new Camelot...brings the new economics...He brings people like Waller, Heller, James Tobin, Robert Solow...one of the big goals was to get rid of the taboo on deficit spending.” – Alex [03:01] -
On Central Bank Independence:
“The real purpose was to barbecue Martin.” (re: LBJ summoning the Fed Chair) – Alan Blinder, quoted by Alex [12:00] -
On Economic Modeling Gone Wrong:
“The key point, I think, is about geopolitics and also the collapse of Bretton Woods...you're going to have higher inflation rates.” – Tyler [06:15] -
On Modern Inflation:
“We managed to do that without an increase in unemployment.” – Alex [26:27] -
On the Limits of Understanding Expectations:
“Expectations are one of the things which economists understand the least.” – Alex [31:17]
Important Timestamps
- [00:42] – Tyler on the 1970s as a time of economic missteps
- [01:35] – Alex: Public hatred of inflation exceeded economists’ expectations
- [03:01] – Alex: The Kennedy/Johnson Keynesian turn
- [06:15] – Tyler: Geopolitical drivers and Bretton Woods
- [13:01] – Alex: Nixon’s manipulation of the Fed
- [15:47] – Tyler: Safe asset creation and fiscal theory
- [18:04] – Tyler: Sumner’s nominal GDP story
- [20:38] – Alex: Supply shocks and prior inflation
- [22:15] – Tyler: Keynesian missteps, wage-push errors
- [26:27] – Alex: Modern inflation and unemployment decoupling
- [31:29] – Alex: The importance of “vibes” and expectations
- [33:07] – Alex: Final critique of busting fiscal taboos
- [34:30] – Tyler: The inevitability and moderation of bad outcomes
Summary
This episode offers a sweeping yet detailed exploration of the inflationary fever of the 1970s, blending economic theory, historical anecdotes, and sharp debate. Alex and Tyler revisit the intellectual misjudgments and policy sins of the era (and the economists who made them), while thoughtfully weighing how those lessons apply (or don’t) to today’s inflation challenges. The conversation is accessible, provocative, and colored by both scholarly authority and personal memory—a must-listen for anyone interested in economic history, monetary policy, or the enduring tug-of-war between politics and macroeconomic prudence.