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Why Mainstream Economics Got Inflation Wrong

Leading economists' misdiagnosis of inflation in 2021-22 was the latest episode in a long-running series of failures, from not foreseeing the 2008 financial crisis to endorsing self-destructive austerity in the 2010s. Either mainstream economists need to re-examine their core beliefs, or the profession needs a new mainstream.

AUSTIN – In his November 7, 2023 New York Times newsletter, the economist Paul Krugman asks a good, albeit belated, question: Why did so many economists get the inflation outlook wrong? After all, the near-consensus among mainstream economists in recent years was that inflation would persist – and even accelerate – and that this justified substantial interest-rate hikes by the US Federal Reserve. Yet the quasi-inflation of 2021-22 proved transitory.

Krugman poses his question with impeccable diplomacy, professing “respect” for three authors of a September 2022 paper published by the Brookings Institution (which was then promoted by Harvard University’s Jason Furman) projecting that it would take at least two years of unemployment at 6.5% to bring inflation back to the Fed’s self-imposed 2% target. But inflation had already peaked before the Brookings paper appeared, and long before the Fed’s rate hikes might have been felt. Over the next year, inflation petered out, even as unemployment remained below 4%. “Team Transitory” – which once briefly included US Secretary of the Treasury Janet L. Yellen – endured two years of derision, but it was correct all along.

Krugman rightly focuses on the illogic of certain inflation “pessimists,” who “came up with new, completely unrelated justifications” for their contention that inflation would “remain stubbornly high” long after the 2021 fiscal stimulus packages had been absorbed. Since these pessimists encountered very little mainstream dissent, their doomsaying continued to dominate the discourse well into 2023.