Summers warns Fed of 1970s-style CPI set to slow mistakes

Summers warns Fed of 1970s-style CPI set to slow mistakes

Former Treasury Secretary Lawrence Summers said he is concerned that a slowdown in headline inflation in upcoming data will lead the Federal Reserve to conclude that policy is working, when much more action is actually needed.

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(Bloomberg) — Former Treasury Secretary Lawrence Summers said he worries that a slowdown in headline inflation in upcoming data will lead the Federal Reserve to conclude that policy is working, when much more action is actually needed.

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“I’m concerned that we’re going to see some good news on non-core inflation,” Summers said on Bloomberg Television’s “Wall Street Week” with David Westin, ahead of consumer price data due Wednesday, which is set to show a slowdown in inflation, thanks in particular to a decline in petrol costs. Combined with some signs of economic slowdown, the danger is that it “will lead the Fed to think things are under control.”

However, the U.S. economy remains in an “overheated” state, as shown by the July employment and wage numbers released Friday, Summers said. A “red-hot” labor market would mean “constant or even accelerating inflation,” he said.

Payrolls rose by 528,000 in July, a broad advance that beat all estimates and was the largest in five months, Labor Department data showed on Friday.

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“Everything in this number says I’m overheated, not yet under control, not yet on the way to being under control,” said Summers, a Harvard University professor and paid contributor to Bloomberg TV. “My concern was actually magnified,” he said.

Summers highlighted that his one-time intellectual sparring partner on economics, Nobel laureate Paul Krugman, also warned that it is not time for the Fed to change course. Fed policymakers have raised interest rates by 75 basis points in each of the last two meetings, in the most aggressive tightening since the 1980s.

Krugman previously wrote in the New York Times that “the good news we’re getting about short-term inflation is not evidence that the strategy has already worked, and unfortunately (I’m usually a money dove), it offers no justification for a turn toward easier money.”

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Summers said the danger is “we’re going to have a situation like we had in the 1970s, where we perpetuated inflation by not doing enough to contain it.”

By removing food and commodities such as energy, “by all reasonable measures we have core inflation running somewhere plus-or-minus 5%,” Summers said. “It’s more than when Richard Nixon put price controls in place. It’s not acceptable by any measure.”

The former finance chief repeated his criticism of Fed chairman Jerome Powell’s assessment last month that the central bank had already reached a “neutral” setting with the latest rate hike – where it neither stimulates nor limits consumer prices.

“I don’t think the Fed has the thread right now,” Summers said. Without significantly raising real interest rates — which are adjusted for some measure of inflation — “we’re just setting the stage for stagflation,” he said.

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