There has now been an exciting exchange of blows on inflation on the Internet, organized by Markus Brunnermeier, a German-born economics professor from Princeton University in the United States: the American star economists Paul Krugman and Lawrence ("Larry") Summers met to discuss inflation.

It was about a year after they had previously discussed the subject in the same setting, but before inflation in the United States reached historic levels.

The organizers called the spectacular encounter the “Super Bowl of the Economy”.

Danger of inflation?

One warned, one was "relaxed"

Christian Siedenbiedel

Editor in Business.

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Both economists have things in common, but also strong differences: Politically, in divided America, both are more likely to be attributed to the Democrats.

And both argue economically in the broadest sense “New Keynesian”, as moderator Brunnermeier puts it.

However, Krugman, winner of the Alfred Nobel Memorial Prize in economics, had always enjoyed making fun of people who constantly warned about inflation in his cult columns in the New York Times.

The "inflation-is-coming-crowd" he called those anxious who fear inflation at every opportunity and therefore prefer to invest their money in gold.

In the previous discussion a year ago, Krugman was still very “relaxed” with regard to the inflation outlook, as he now recalls.

Summers on the other hand,

The debate begins with an admission: A year ago, says Krugman, he was wrong: "I was relaxed, and I was wrong." Before, when America's Federal Reserve started, on a massive scale Buying bonds would have warned many against inflation. At the time, he was right in his position that this would not happen. But now inflation has come back much more than he could have imagined. A year ago, he mainly argued that the Biden package would not have as strong an impact on inflation as others thought. Among other things, however, he underestimated the difficulties with the supply chains and other consequences of the reopening of the economy, Krugman admits. "We all had to learn more about logistics than we wanted."

Paul Krugman didn't lean too much out of the window last time, says moderator Brunnermeier.

"But I think he also took the view that stimulating the economy was important in order to bring the country back together and to win over certain Trump supporters for the midterm elections."

Harvard economist Summers, on the other hand, tasted his victory only moderately.

"Paul and I are now closer to an agreement than we were a year ago," he said diplomatically.

Summers also emphasizes the importance of demand for inflation, while Krugman mainly emphasizes the unexpected developments on the supply side for his misjudgment. 

"Ending a boom is always hard"

And how will things continue now, moderator Brunnermeier wants to know: Does Krugman belong to the "#TeamTransitory", those economists who expect inflation to decrease soon, while Summers belongs to the "#TeamPersistent", those scientists who think inflation came to stay?

That seems to be the trend.

Anyway, Summer says he thinks the Fed's assessment that some inflation will go away on its own is very optimistic.

In addition to high demand with bottlenecks in supply, there are now also new upward risks for inflation, for example due to geopolitical tensions with consequences for energy prices.

Krugman pointed out that inflation expectations in particular played an important role. Here it is important to look at the behavior patterns of the people. "In the inflation years of the 1970s, everyone behaved as if there would be permanent inflation, and that led to inflation." Now the behavior is not like it was in the 70s. But that could happen: "You have to be careful there." However, the American economy does not need any further stimulus: "If I were the Fed, I would argue for interest rate hikes." The question is how much and how quickly.

The two star economists obviously have little use for the concern about “fiscal dominance”, i.e. the monetary policy of the central banks being dominated by the interests of the highly indebted countries in low interest rates. Brunnermeier wrote a book about it. That might be a theoretical risk, but as long as post-inflation interest rates are still negative, pressure on sovereign debt sustainability is low, Summers said. Krugman said the sentence: "The United States is not the Weimar Republic." Concerns about the development of the highly indebted emerging countries are now "no good reason to be a monetary policy dove", i.e. to plead for a rather loose monetary policy, said Summers .    

In any case, both economists expect the US central bank to raise interest rates several times this year.

However, this way of fighting inflation will not be easy and comfortable for the Fed, stressed Summers.

It is not possible for the Fed to just gently take their foot off the gas, they have to slow down: "Ending a boom is always hard."