Bursting Bubbles, Part 1

Upon taking office, the new President of the United States becomes perhaps the most powerful person on Earth. Despite all the leverage and influence the position confers, there are many things that are far out of the control of any president: it is hardly Harry Truman's fault that Roosevelt's premature death put him in the Oval Office, it is probably not Richard Nixon's fault that the Pentagon Papers were leaked under his administration, and it is almost impossible to blame George W. Bush for the events of 9/11. Regardless, the American people still enjoy attributing many events of circumstance to the president at the time. Even though the power of the Federal Reserve in placing regulations, setting interest rates, and increasing cash flow give the president a measure of control over the economy, even POTUS cannot immediately influence when prosperity and depression occur. Examining economic trends from the late 20th century to today, we see that monetary and fiscal policy (or the lacking thereof) do less to influence the economy than many might think. Rather, economic conditions are more dependent on the policies of the previous president, in addition to the traditional boom/bust cycles of capitalist economies.

Malaise

After the horrors of Watergate, the American people wanted an outsider. As it turns out, they wanted Jimmy Carter, who's now remembered as one of the worst presidents of the twentieth century. The infamous era of "stagflation," a woeful recession where unemployment and inflation somehow both increased at the same time, became one of the primary factors leading to the rise of Ronald Reagan. In spite of all his talk failures in the Iran hostage crisis, and in saving the economy, Carter cannot really be fairly blamed for stagflation. The seeds of recession were first planted by Nixon in 1971, where a 90-day wage and price freeze gave the illusion of fiscal stability. With price controls and demand from the Vietnam War both gone, inflation and unemployment were both on the rise. The trend continued through Ford's time in office, and was only worsened by the energy crisis following the Yom Kippur War. After flirtations with price controls, tax cuts, and tariffs, Ford managed to decrease inflation and unemployment slightly. Both figures, however, remained high as Carter's own attempts to fight the downturn failed on reaching the Senate floor, or on implentation. As they began rising once again through Carter's term, a second energy crisis brought about by the Iranian Revolution sealed the fate of his presidency.

The Reagan Revolution

While Jimmy Carter is now the bane of the Democrat party's good name, Ronald Reagan is now the idol of the Republican side. His success in destroying the Carter recession, and the prosperity that followed made his economic policies (collectively known now as "Reaganomics") the model for every Republican leader to follow him. Oddly enough, some of the credit for beating inflation must go to Carter. After Carter's initial attempts to beat inflation failed, he asked his entire cabinet to resign, and Paul Volcker was brought in as chairman of the Federal Reserve. Volcker almost immediately raised interest rates to tighten monetary supply, compounding the energy crisis that led to even deeper recession in 1980. With the election of Reagan (and a few years time), corporate tax cuts to match tight monetary policy reversed the trends of inflation and unemployment, bringing prosperity back to the economy. It took the monetary policy of a Carter appointee combined with the fiscal policy of Ronald Reagan to finally whip inflation.

Even if the combination of Volcker an Reagan had not succeeded, the inevitability of time may well have ended the recession anyway. A 2010 article in The Economist argues that cyclical factors were already working to stop the rise of inflation. A newfound interest in energy efficiency in the 1970s, spearheaded by Carter but also forced by oil shocks, led to record low petroleum usage in the United States. Even ignoring less demand, another factor would have driven economic recovery. Global oil production rose 30% between 1970 and 1980, and after the crises of 1973 and 1979, oil prices reached all-time lows for the next few decades. Finally, the cycle of increasing prices and increasing wages, a driving factor of inflation, was already being broken in the mid-1970s. Increased foreign competition led to sharp declines in union membership and consequently, a decline in union bargaining power. Taken together, low oil prices and lower wages would eventually have curtailed inflation with or without Ronald Reagan.

Will inflation, thought dead by the hands of Ronald Reagan, return when a Democrat takes office? Find out next week (or maybe the week after), on the next episode of Bursting Bubbles.

http://www.digitalhistory.uh.edu/disp_textbook.cfm?smtID=2&psid=3360

http://millercenter.org/president/biography/ford-domestic-affairs

http://www.forbes.com/sites/briandomitrovic/2011/02/07/volcker-and-the-reagan-legacy/#67fe07346415

http://www.economist.com/blogs/freeexchange/2010/03/volcker_recession