The rising stagflationary tsunami

Last week I noted how President John F. Kennedy bequeathed to his successors a team of economic "experts" confident that they could eliminate the business cycle. I have commented on the deficiencies of John Maynard Keynes' "general theory" many times during the past four years. As if the original idea did not have enough bad assumptions on its own, the post-WWII leaders of the "new economics" school of thought added their own mathematical junk and econometrics voodoo to justify their status of demigods of the new world order.

One of the most unfortunate expansions of Keynesianism came from New Zealand. The "Philips curve" claimed the existence of stable relationship between unemployment rates and price levels. Suddenly it became possible to "fine-tune" the economy with tools previously available only to the natural scientists. Unsatisfied with the 6 percent unemployment from the end of Dwight D. Eisenhower's presidency, the new administration could achieve any target deemed "desirable." If inflation ever became a problem, it would be dealt with through price controls.

Under the new doctrine, the president had to persuade the Federal Reserve to push interest rates down and demand from Congress the passing of a stimulus bill. In theory America was going to cut unemployment in half at the expense of tripling the inflation rate (from 1.5 to 4.5 percent). JFK's chief economic adviser Walter Heller knew that he and his colleagues had to brainwash the general public and Washington's politicians-in his own words, to "condition" men's minds to accept "new and broader concepts of the public interest."

Kennedy's economic team faced vigorous opposition from Republicans and Southern Democrats. Only after the president's death did the Keynesian wheels start turning. In a few short years, the apostles of "full employment" dismantled three major obstacles: the "stereotypical" belief in the virtue of living within your means, the "ignorance" of the Fed that made them overly hostile to inflation, and the straightjacket of the Bretton Woods international monetary system that guaranteed the convertibility of the U.S. currency into gold at a fixed rate of $35 per ounce.

The new economic order seemed to work for a short while, mostly as a result of "the first intoxicating phase of inflationary economic policies," noted Washington Post columnist Robert J. Samuelson, "and the lingering aftereffects of World War II (which eliminated most international competition)." When inflation began to destabilize the U.S. economy, President Lyndon Johnson used every ounce of his considerable skills as a political manipulator to enforce the Keynesian wage-price "guideposts." Initially the president achieved some success, "jawboning" major corporations and unions. Soon, recalls Samuelson, he became "America's firefighter in chief, rushing everywhere to douse inflationary flames." America witnessed how one ambitious politician, misled by the ideas of his economic experts, tried to bully away the rising stagflationary tsunami. The account of the Keynesian blunders continues next week.