Now, as in Lyndon Johnson’s day, the prevailing economic and financial policy framework – what we’ll call the Box – is failing to deliver positive outcomes for a large majority of the adult population.
If we cast our minds back to the early 1960s, the policy framework consisted of: the Bretton Woods system of fixed exchange rates; the convertibility of US dollars into gold at a fixed price; the virtue of balanced government budgets; and post-war controls on the free movement of labour, goods and capital. Armed with the newly-minted Phillips curve, economists such as Paul Samuelson and Robert Solow claimed the US unemployment rate could be halved, from 6% to 3%, if only the authorities would accept a moderately higher annual inflation rate of around 4% to 5%, rather than 1% to 2%.2
Walter Heller, the chair of John F Kennedy’s Council of Economic Advisors, summed up the frustration with the prevailing economic orthodoxy: “Men’s minds had to be conditioned to accept new thinking, new symbols, and new and broader concepts of the public interest.”
Kennedy was sceptical of this way of thinking and it was not until Johnson replaced him that the policy revolution started to take hold. US consumer price inflation (excluding food and energy) rose from 1.5% in December 1965, to 3.8% in December 1967, to 6.6% in December 1970.3 America’s reflationary splurge blew apart Bretton Woods and the gold standard. A decade of monetary instability and even higher inflation ensued.
Could this, or something eerily similar, happen again?
The Box that was designed to lock-in low inflation, uphold fiscal discipline and rebuff political interference is in mortal danger, not only, but not least, in the US. We stand at the threshold of a policy revolution that will blow up the Box, over-riding the primacy of the inflation objective and abandoning fiscal orthodoxy into the bargain.