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- Inflation hasn't cooled because of the Federal Reserve's interest-rate hikes, Paul Krugman says.
- The Nobel Prize-winning economist says it's more likely that pandemic disruptions have dissipated.
- Still, the US economy might be in worse shape today if the Fed hadn't raised rates, Krugman says.
US inflation has plunged not because of the Federal Reserve's hikes to interest rates, but because pandemic disruptions have faded, Paul Krugman says.
The pace of price growth hit a 40-year high last year, spurring the central bank to lift borrowing costs from nearly zero to north of 5% since last spring. Inflation has slowed from 9.1% to 3% over the last 12 months, but it's unlikely the Fed's tightening is responsible, the Nobel Prize-winning economist argued in his latest New York Times column.
"The more I look at that claim, the less plausible it seems," Krugman wrote. Giving credit to the Fed for disinflation strikes him as "at least mostly wrong," he added.
The retired Princeton and MIT professor said it was more likely that the COVID-19 pandemic discombobulated the economy. Now markets have adjusted those disruptions, "recombobulation" has taken place, he said.
He pointed out that higher rates typically curb inflation by discouraging spending, hiring, and investing. That leads to higher unemployment, which weakens demand and eases upward pressure on prices. But inflation has cooled without joblessness spiking, indicating other factors are at work, he said.
Krugman highlighted that business closures, lockdowns, and travel restrictions shifted demand to goods from services. That roiled global supply chains and sent everything from shipping costs to used-car prices skyward.
More importantly, the work-from-home boom ignited demand for houses, which had the knock-on effect of lifting rental costs. Those forces plateaued more than a year ago, but have only been reflected in recent months due to lags in inflation measures, Krugman said.
The economist also underscored that the surge in workers quitting their jobs during the pandemic — dubbed "The Great Resignation" — has dissipated. As a result, labor shortages have eased and wage growth seems to have waned.
Krugman summed up recombobulation as "the fading away of pandemic-era distortions." There's much more evidence of that happening versus "sketchier and more speculative" claims that the Fed is responsible for disinflation, he said.
However, the author and columnist emphasized the Fed had little choice but to hike rates and risk a recession to crush inflation before it became entrenched. The US economy seems to have shrugged off the rate increases so far, with stocks, home prices, and employment holding up, and no sign of a near-term recession.
"This suggests to me that the Fed may have done the right thing for the wrong reasons," Krugman said. He explained that surprisingly resilient US demand could indicate the Fed stopped the economy overheating and inflation surging by raising rates, which allowed recombobulation to relieve pricing pressures.
"When it comes to disinflation, which has so far been incredibly painless, we got lucky," Krugman concluded.