Lessons - Where Your Paycheck Actually Goes and Why It Keeps Shrinking | Diana Furchtgott-Roth - Economist & Fmr Deputy Asst Secretary of Transportation

In this lessons episode, discover how monetary policy, government spending, and supply constraints can drive inflation. Understand how rising prices erode purchasing power. Explore why interest rates and energy costs matter in controlling inflation. And uncover how policy decisions around production, tariffs, and labor can shape the broader economy. I want to, so obviously this is one major issue that should be solved for, for the average American person, but obviously that's not the only issue and that actually this will, I don't want to spend too much time on healthcare because there's a lot of other incredible insights that you have around what's happened. So we look at inflation. That's an incredible topic that I think you have a lot of expertise in. We're looking at the highest inflation numbers since 1982. Yeah. So, you know, you've been working as an economist for, I don't even know how long, longer, probably like a long time, like a fairly long time if you were around with the Reagan administration. So you've seen everything. So what has caused this inflation? What, like, let's simplify what the major drivers are because we hear... the different causes from different politicians, different news outlets. You've been around working with the numbers, working with different administrations. So what has caused this? There's been vast monetary accommodation from the Federal Reserve, and there's been a big fiscal policy expansion in the beginning of 2021. Rates have been very low during, we saw that GDP growth was very strong at the end of at the end of 2020. And yet at the beginning of 2021, there was another $2 trillion of stimulus put in the economy. And this kind of pitched everything over the edge. People were being paid to stay home at a time that GDP growth was around 6% or 7%. So consumers wanted to buy services. They wanted to buy products. At the same time, stimulus checks were being sent out that encouraged people to stay home. Expanded unemployment insurance benefits encouraged them to stay home. It's as though you gave everyone coupons to eat at McDonald's. So everyone went to McDonald's. But then yet... the staff didn't show up, and there wasn't enough people to produce all the hamburgers and french fries. That's a bit what it was like. So we had these major supply chain problems that drove up the prices, and we have yet to recover fully from that. So the combination of a very loose fiscal policy with a lot of spending, together with interest rates that were close to zero. And there had been people right in 2021 in the spring, people like Mickey Levy of Berenberg Capital, one of the smartest economists around was saying, you gotta be careful of inflation. You gotta watch inflation. The same time the Fed was saying, no, it's transitory, it's just gonna go away. but it didn't go away. It was growing, and now it's about 8.5%. The producer price index is above 11%. So now the Fed is in a really tough spot. They don't want to have to raise interest rates too quickly during an election year. They don't want to seem to be political. On the other hand, they don't want to be left with the legacy of double-digit inflation. So the question is what to do. So that's an incredible point. And I understand where it's coming from. But the Fed is also buying billions in treasuries and mortgage-backed securities. So tell me, why does that make sense when they're already trying to solve the first problem that they created? This seems to be compounding the issue. That's a great question, Scott. Well, they have announced that they have stopped buying the treasuries and mortgage-backed securities and they're whittling back their multi-trillion dollar balance sheet. So they are starting to move in the right direction. They raised interest rates by a quarter of a percent at the last meeting. Many people say they're going to be raising them by half a percentage point at the next meeting in early May. So we'll have to see what happens. They have another six opportunities to raise interest rates, raising the federal fund rate this year. And we'll have to see if they do it in what's called 25 basis point increments. That's a quarter of a percentage point or 50 basis point increments, which is half a percentage point. But if they do it in 25 basis point increments, at the end of the year we'll be left with a federal funds rate of 2.9%. Inflation is now running at 8.5%. We have never managed to get inflation down by having a federal funds rate that's lower than the inflation rate. So whatever strategy they're using is going to have to be helped by President Biden. He can actually do something also to help bring inflation down and exerting downward pressure on energy prices and commodity prices. And he needs to be working in tandem with the Federal Reserve on this to bring inflation down. Now, is he doing that? Is he proactively doing that right now? Well, so far he is not. He could be doing a lot to lower energy prices by expanding production in the United States. So he said that he's taking oil out of the Strategic Petroleum Reserve. But we have the biggest strategic petroleum reserve right here under our feet, and we could be expanding oil production offshore and in different areas in order to lower the price of oil. North America is the largest natural gas and oil producing region in the world, and we should be taking advantage of that. You know, Scott, prices are set by expectations. So if the president announced that he was doing something different, then the price of oil could fall by $10 or $20 a barrel just on expectations of greater production and lower prices. But so far, he has not announced that he is doing anything. Why are we not taking advantage of the resources that we have? What's the geopolitical reason? Again, as I said in the beginning, it comes down to politics rather than economics. The president certainly knows that we need more oil production. But he's going to Venezuela. He's going to Iran. He's going to Saudi Arabia. He's asking them to produce rather than our companies here, because the left-wing environmentalists that form part of his base are saying that they don't want fossil fuel production here in the United States. So yes, oil is going to come out of the ground, but it's not going to come out of the ground here. which is not really going to help climate change because regulations here to produce oil are so much more stringent than anywhere else in the world. If you want to produce oil with the least amount of excess emissions, the least amount of excess pollution, this is the place to be doing it here in the United States. No, I agree. It seems almost counterintuitive and counterproductive to claim that you're going to be more environmentally friendly by going to these countries. It's interesting what lobbying, I guess, can do. Let's talk about inflation. So let's talk about inflation numbers. Let's talk about the average American's ability to consume. If we do not... tame inflation if we do not move it in the right direction? What's the reality for the average American? How is it going to impact them? Well, already the average American is seeing lower and slower wage growth because of inflation, with inflation running at 8.5%. and average wages increasing by 5.6%. And that's just the average. A lot of people aren't getting raises at all. And then people are finding that their incomes are shrinking. They still have pretty good balance sheets from the stimulus funds that they saved, but ongoing, inflation is going to be cutting into their incomes. They won't be able to buy so much. And so that is how a recession starts. We have to hope that it doesn't get to that. Help me understand as somebody who, again, not heavily understanding of finance and your domain of expertise, but the recession that could come of this, is it lesser or greater than what we've seen in the past? With past recessions, excuse me. Well, no one knows, Scott. In fact, we're hoping that the Fed can get inflation out of the system without a recession. But if it does it gradually now, it might be a slower, a smaller recession, a smaller negative growth rate than if they left it to double-digit inflation. It's always easier to attack inflation in its initial stages. especially now with the supply chain problems. If we can solve some of the supply chain problems, we might only have to deal with 4% inflation, which is only two percentage points above the Fed's target, which is 2% inflation. So I talked about energy prices, how the president could help get those down. He could also reduce the price of commodities by taking off some of the tariffs. If we look at steel and lumber, we still have tariffs on those from the Trump era. President Biden could get rid of those. In fact, he's got rid of so many Trump era policies. You have to ask, why hasn't he got rid of the tariffs? So that's something that he could be getting rid of. He could also be looking at our wage rates and the cost of infrastructure spending. We passed this trillion-dollar infrastructure bill. He signed it into law in November. But a lot of the projects have to be undertaken with project labor agreements. That means only high-priced union labor can be used. And unions are about 13% of all construction companies. 13% of all construction companies are unionized. So that's leaving out the lowest cost, 87% of them. So there's no reason for the president to be just allowing union labor to be building infrastructure in the United States. There's other companies that can be doing it too. We don't have to artificially raise the price of labor. You mentioned one thing that was interesting. So sort of two points that came out of that. Biden has not removed tariffs on certain items, but also the fact that we're still mandating union labor for a lot of these jobs. The point about tariffs, why would you not remove those if that would benefit? What would be the purpose as to why you wouldn't do that? It seems very obvious that it should be something that should be done if it's going to help improve the situation. Yeah, yeah, it seems very obvious, but there's a populist view that you want to protect Americans, you want to protect American workers. But now there are 11 million unfilled jobs. Anybody who wants a job can get one, but it's an element of populist protectionism, which again is more politics than economics, even though there are far more people who would benefit from lower prices on steel and lower prices on lumber. There's small groups that are very influential who basically have a say as to what happens. And I would recommend getting rid of those tariffs and lowering some of those prices of commodities. There's a lot that President Biden can do to help reduce inflation, help the Fed out. Thanks for tuning in. If you found this valuable, don't forget to hit that subscribe button so you never miss an episode. And if you want to dive deeper into this conversation, check out the links in the description to watch the full episode. See you in the next one.