A 1970s-style financial crisis will hit the US economy if the Fed lets up in its inflation fight, according to Larry Summers.
The former Treasury Secretary criticized recent calls to raise the inflation target from 2%.
That could cause inflation to spiral out of control, he said, warning of “spectacular” consequences.
The economy could be slammed with a 1970s-style financial crisis if the Federal Reserve abandons its inflation target and lets prices run higher, according to former Treasury Secretary Larry Summers.
At a panel discussion at the World Economic Forum, Summers rebuked suggestions from some economists that the Fed should lift its inflation target from its long-standing 2% target to 3%-4%.
“To suppose that some kind of relenting on an inflation target will be a salvation would be a costly error, it would ultimately have adverse effect as it did in a spectacular way during the 1970s,” Summers said, referring to the stagflation crisis that gripped the economy nearly half a century ago. Inflation expectations spiraled out of control, prompting the Fed to embark on an aggressive monetary tightening campaign that caused a severe recession in the early 1980s.
Elon Musk, Paul Krugman, and Jeremy Siegel are warning the Fed risks hiking rates too high and tanking the US economy. Here’s where 7 experts see danger.
Elon Musk, Paul Krugman, and Jeremy Siegel say the Fed may be going too far with its rate hikes.
Bill Gross and David Rosenberg have also warned the central bank against tanking the US economy.
Here’s what 7 experts have said about the danger of an overzealous Fed.
Elon Musk, Paul Krugman, and Jeremy Siegel have warned the Federal Reserve risks going too far in its fight against inflation, raising the prospect of a painful recession.
Bill Gross, David Rosenberg, Robert Herjavec, and Ed Yardeni have also urged the US central bank not to hike interest rates too high, given the potentially devastating impact on the economy.
Here’s a roundup of the 7 experts’ cautions to the Fed:
Elon Musk
“The Fed is raising rates more than they should,” Musk said on Tesla’s third-quarter earnings call. “But I think they’ll eventually realize that and bring it back down again.”
The Tesla CEO and Twitter owner suggested the US central bank is overly focused on lagging indicators of inflation, and not paying enough attention to what’s ahead.
“The Fed is not listening, because they’re looking at the rearview mirror instead of looking out the front windshield,” Musk said.
Paul Krugman
“I see a strong case that the Fed has already done enough,” Krugman said in a recent column. “You want to shoot ahead of a moving target, not behind it.”
The Nobel Prize-winning economist pointed to the sharp decline in trans-Pacific shipping costs, plus flagging demand for apartments, as evidence of the inflation threat waning.
He also flagged the strong dollar’s dampening effect on US exports, and higher mortgage rates squeezing consumers and making houses less affordable.
“I’d argue that these indicators tell us that the Fed has already done enough to ensure a big decline in inflation — but also, all too possibly, a recession,” Krugman said.
Jeremy Siegel
“The Fed is slamming on the brakes way too hard,” Siegel said in a recent interview.
“The pendulum has swung too far in the other direction,” the Wharton professor added, referring to US monetary policy going from too loose to overly restrictive.
“If they stay as tight as they say they will, continuing to hike rates through even the early part of next year, the risks of recession are extremely high,” Siegel said.
Bill Gross
“The US and other economies cannot stand many more rate increases,” Gross said in a recent investment outlook.
Gross argued that huge amounts of government debt, and global headwinds such as the Russia-Ukraine war, meant that if the Fed hikes rates too far, it could “slay inflation but create a global depression.”
“If Fed stops at 4.5% then mild recession,” Gross tweeted this week. “If it goes to 5% or higher then significant US and global downturn.”
David Rosenberg
“I would posit that the Fed has already done the overkill,” Rosenberg said in a recent interview.
The Rosenberg Research founder suggested Fed officials have a “once burnt, twice shy” mentality after reacting too slowly to the inflation threat, so they’re overreacting now by raising rates too aggressively.
If the Fed continues to tighten its monetary policy, it could tank house prices, spark a credit crunch in the banking sector, weaken consumer spending, and make any economic downturn last longer, Rosenberg said.
Robert Herjavec
Consumers and enterprises are still spending money, but rising interest rates will eventually stifle that demand, Herjavec said in a recent interview.
“I worry we’re going to hit a wall, and the interest rates are going to catch up to us, and the whole thing is just going to stop,” the “Shark Tank” investor and Cyderes CEO said.
Herjavec added that he’s more worried about the Fed’s “maniacal drive with interest rates” than he is about inflation.
Ed Yardeni
“I think the Fed has to be really careful here,” Yardeni said in a recent interview.
“If they keep going without pausing, it’s really going to create a real possibility of a significant recession,” he added.
The Yardeni Associates boss pointed to declining food and energy prices as evidence that inflation is on the decline. He noted the Fed’s tightening has already hammered the housing market, and fueled the stock-market’s sharp decline this year.
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Other economists have warned that the US could risk a similar crisis if inflation isn’t brought under control. That’s because central bankers have aggressively tightened interest rates in response to rising prices, but inflation still remains well-above the Fed’s target, clocking in at 6.5% in December. And rates are already approaching levels that could overtighten the economy into a downturn, experts warn.
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Economist Mohamed El Erian is among those that have suggested the Fed may have to revise its inflation target to 3%-4%, though the Fed has reiterated its commitment to its original 2% goal. That could be because central bankers are trying to maintain their authority on inflation, after mistakenly calling rising prices “transitory” in 2021, Summers said.
“It would be a grave error for central banks to revise their inflation target upwards at this point. Having failed to attain the 2% target and having re-emphasized repeatedly the commitment to 2%, to then abandon the target would do very substantial damage to credibility,” Summers said, adding that recession would be inevitable if inflation is not properly controlled.
Summers has revised his economic outlook multiple times, and recently said he believed a soft-landing was becoming more likely, despite previously warning of an imminent recession and a new era of volatility. He reassessed the likelihood of an incoming recession due to moderating inflation figures, with the Consumer Price Index down over 250-basis-points from a 41-year-high in 2022.
