We are all
aware that the Fed has a dual mandate of stable prices and maximum
employment. But what may come as a surprise to most is that they have a
distinct preference in their mandates. The Federal Reserve under Ben Bernanke
has a clear bias towards fulfilling the goal of maximum employment. Given the
situation where unemployment is high and prices are relatively stable, the
Fed has opted to pursue a policy of pursuing higher inflation in the hopes of
engendering lower unemployment rates.
What the Fed
doesn't understand is that full employment can exists in perfect harmony with
stable prices. That's because having more people producing goods and services
can never by itself lead to an environment of rising aggregate prices. And,
most importantly, an increasing rate of inflation actually increases the rate
of unemployment. Not only do these facts make sense economically but
also are borne out in the historical data.
Each and
every time the Fed has increased the money supply and sent prices rising the rate of unemployment has risen not decreased.
The simple reason for this is that inflation diminishes the purchasing power
of most consumers. Falling real wages means less discretionary purchases can
be made. Falling demand leads to increased layoffs and the unemployment rises
as economic growth falters.
The 12.2%
Y.O.Y. rise in CPI that occurred in November of 1974 led to the cyclical high
of 9% unemployment during May of 1975. Likewise, in 1979 the Y.O.Y increase
in CPI reached a high of 14.6% in March and April of 1980, which was followed
by another cyclical high 10.8% unemployment print in November and December of
1982. Once again, Y.O.Y. CPI increased from 1.2% in December 1986 to 6.4% in
October of 1990. That again corresponded with the rise in unemployment that
occurred from the 5% level in March of '89 to 7.8% in June of '92.
Today, we
find that the unemployment rate is 9.1% due to the credit crisis and Great Recession.
Bernanke believes he can bring that figure down by creating inflation. He has
become successful in bringing YOY changes in PPI to 6.9% and CPI to 3.9%.
Inflation has now arrived. However, the rate of unemployment will only
increase from here as long as the Fed mistakenly holds the belief that
printing money can solve the employment situation. Quite the contrary, it
only causes the dissolution of the middle class.
In reality,
the Fed needs to uphold only one mandate; that of stable prices. Fulfilling
that mandate by keeping in check the growth of money supply is the only way
to ensure our economy displays full employment and maximum economic growth.
Michael Pento
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