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2010: That '70s Show All Over Again


The post-2007 unwinding of our confidence in the Federal Reserve.

In his excellent book, The Great Inflation and Its Aftermath, columnist Robert Samuelson offers "The ultimate accomplishment of Reagan and Volcker was to show that government could govern and, in so doing, they restored -- at least temporarily -- American's confidence in their leaders and political institutions."

As part of a longer term project, I've spent a lot of time reviewing the past 40 years of American economic history, looking at the various twists and turns in our economy and the financial markets and how they may have, in some way, contributed to our current economic crisis.

But of the many events I've looked at, Paul Volcker's "conquering" of inflation stands out as a "biggie," if only for the reaction that Samuelson suggests.

I contrast this to Liaquat Ahamed's assessment of the world's central bankers during the Great Depression. In his (also excellent) book, The Bankers Who Broke the World, Ahamed writes "It was the decisions taken by a small number of central bankers that were the primary cause of the economic meltdown, the effects of which set the stage for World War II and reverberated for decades."

Volcker and Reagan saved the world and ushered in "The Great Moderation." Strong, Schacht, Norman, and Moreau set the stage for "The Great Depression."

One team generated confidence, the other destroyed it.

While not suggesting that either of these conclusions is correct or warranted, that's how history now records it.

But I can't help but wonder if the inflation the United States experienced during the 1970s was as much a reflection of the general public's lack of confidence in the government as anything else. Between our failures in Vietnam, Nixon's resignation, the oil embargo, wage and price controls, "stagflation," the end of Bretton Woods, the collapse of Iran... it wasn't exactly America's finest hour.

In hindsight, that the general population lost confidence in the Federal Reserve's ability to control inflation shouldn't be much of a surprise.

But could it be that Volcker and Reagan were just lucky? Coming in at a turning point in social mood?

While not taking anything away from either man, I can't help but wonder.

But if 1980 was the bottom, it sure feels like 2007 marked the peak of our post-Volcker confidence in the Federal Reserve and the Great Moderation top. Remember all the references to the "Goldilock's economy"? The Federal Reserve had it "just right." Or so we all believed.

And maybe that was the problem. Confidence had run its full course.

But as a consequence -- and judging by the change in social mood over the past two years -- I can't help but wonder if the decade of the 2010s will more closely resemble the 1970s as confidence in governments and central banks -- not just in the United States, but globally -- erodes. And while I know many suspect a return to 1970s-like inflation, I expect declining social mood will manifest itself in deflation first.

As much as the world's central bankers have studied the Great Depression, when it comes to changing social moods, history is pretty clear. In the battle between social mood and the Fed, social mood always wins.
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