Modern lessons from "The Great Inflation"

"The Great Inflation

and its Aftermath: the Past and Future of American Affluence"

by Robert Samuelson

Random House, 329 pp., $26

BOOK REVIEW

Before Barack Obama takes the oath, he should read "The Great Inflation and Its Aftermath," Robert J. Samuelson's timely history of how good political intentions stoked an inflationary hell in the 1970s — and how only bold, painful action smothered the flames.

The Great Inflation refers to the period when U.S. inflation rose from negligible levels in the mid-1960s to double digits in the early 1980s. Though the episode scarred a generation, our memory of the fire has faded, says Samuelson, an award-winning columnist for News-week and The Washington Post. So let's remember what a scourge inflation was.

"Its rise and fall constitute one of the great upheavals of our time, though one largely forgotten and misunderstood," Samuelson writes.

Far from an unavoidable accident, the relentless wage- price spiral that ravaged the 1970s was the direct consequence of a well-meaning attempt to keep the economy permanently near "full employ-ment," Samuelson writes.

Dreamed up by a coterie of Keynesian economists under President John F. Kennedy and pursued by Democratic and Republican administrations alike, this effort was the government's "greatest domestic policy blunder since World War II," Samuelson says; it was comparable to its biggest foreign policy blunder of the era, the war in Vietnam.

A thousand cuts

The lessons of the Great Inflation had direct bearing on this month's presidential election, says Samuelson, who finished the book before the outcome was known but had the vote in mind as he wrote. The moral is clear: Whatever challenges the next president faces, he must resist the urge to "improve" the economy with what Samuelson calls "a plethora of new taxes, spending programs and regulations."

"The economy's growth could suffer death by a thousand cuts," he writes.

Instead of stimulating the economy, Obama may even be forced to do what Ronald Reagan did: Take unpopular measures today in the hopes of building prosperity tomorrow.

Samuelson has written a brisk and balanced account of the Great Inflation, marshaling facts, figures and anecdotes to show how every president from Kennedy through Jimmy Carter contributed to the mess except perhaps Gerald Ford.

He reminds us how inflation threatened Lyndon Johnson's Great Society in the 1960s, forced Richard Nixon to impose a wage- price freeze in 1971 and broke Carter as it ran to 14 percent in 1980.

(He dismisses the argument that inflation was an "unfortunate spillover" from the Vietnam War and oil price shocks. Price pressures didn't abate as the war ended, and energy didn't comprise "a major part of higher inflation," he says.)

Keynesian Economics

The Federal Reserve, instead of taking away the punch bowl, refilled it during those years, adopting Keynesian economics and buckling under political pressure. It took Paul Volcker to stop the party. Shielded by Reagan's political support, the Fed chairman "took a sledgehammer to inflationary expectations," Samuelson writes. "He raised interest rates, tightened credit and triggered the most punishing economic slump since the 1930s."

As unemployment surged to 10.8 percent, Congress howled. Sen. Howard Baker urged the Fed to "get its boot off the neck of the economy." Volcker stood fast. Reagan kept quiet. Inflation eventually subsided.

"Crucial juncture"

The harsh recession of 1981-82 laid a foundation for two decades of prosperity that reordered financial markets, fed globalization and exposed workers to more competition. We're now at the end of a half-century-long economic cycle dominated by the rise and fall of the Great Inflation, Samuelson says; "a crucial juncture."

We may be entering an era of "affluent deprivation," Samuelson says — a period of slower growth that will never satisfy the demands of U.S. voters. The pressure will only increase as Americans slog through financial crisis, a mountain of personal debt and what Samuelson calls an overcommitted welfare state.

Come what may, the U.S. must control inflation, stem the rising costs of the welfare state and come to grips with globalization, Samuelson says. We should, in short, learn from the Great Inflation.

"A central lesson was that ambitious efforts to remedy obvious economic shortcomings can actually make matters worse — that happened then, and it could happen now," he concludes. "The law of unintended consequences went into overdrive and might again."

This is a bleak yet needed reminder. Obama would do well to seek Samuelson's counsel.