Who killed economic liberalism?

Always the clever lawyers

Photo by Jonathan Stpiere on Unsplash

Hello,

Welcome to Known Unknowns, a newsletter that embraces uncertainty—it is what brings us growth and progress for humanity.

Thoughts on the Fed and Labor Market

I am not convinced that the Fed made a mistake by not cutting rates last week. If they had, would the jobs report have been better? No, of course not. Markets are in turmoil, but a rate cut wouldn’t have prevented that either, in fact the anticipation of a rate cut in the US may what caused Japanese markets to fall.

The question is whether the labor market is barreling into a recession or just normalizing after running hot for a few years. We don’t know yet, the jobs data has some ambiguity and GDP numbers and other economic indicators seem to suggest we are not heading into a recession at a breakneck speed where cutting rates in July or September would have made any difference. If we are heading into a recession, I am not convinced it is because interest rates are too high.

The Fed will probably cut rates in September. I don’t think that’s a mistake, but to be honest, I don’t think it will make the big difference to the economy that people expect either. It is true that in the past, recessions were often caused by overly tight monetary policy that went on too long. But those rates were much higher, and financial conditions were much tighter.

Usually, when Fed rate cuts are large and feel urgent, it is because we are in a recession or clearly heading towards one, and the Fed is looking to boost the economy. But the Fed doesn’t want to do that, or it risks increasing inflation. It is merely trying to ease up on the brake a bit—and that is a situation many commentators are just not used to.

The fact is, monetary policy in this range is not that powerful. We like to think it is because it means we have more control than we do. Even more disconcerting, we don’t know what will happen. There is no rule that can predict a recession—and any rule people are using is based on very few data points and different economic conditions. After all, recessions are often caused by things we can’t predict.

The Important Policy Shift that Gets Less Attention

I suppose it is entertaining to speculate about the Fed, but another policy shift is far more consequential because it is changing the structure of the global economy.

We used to live in more enlightened times. These were the years I came of age as an economist, and they were pretty great. Economic policy was far from perfect, but it was guided (mostly) by a philosophy that growth was good. Not just good for America, good for everyone, and the world would be better and more harmonious if everyone’s (within reason) economy grew. It was not seen as a zero-sum game either. One country did not grow at the expense of others. We were in it together.

Things have changed. The guiding economic philosophy—for both parties in the last few years—is that growth is something we reward our friends with and withhold from our enemies or people we are not sure we completely like or are nervous about. I wrote about it for Bloomberg last week.

It started under the Trump administration but went up several notches during the Biden administration, under the guise of economic statecraft—or the idea that economic policy is not about promoting growth, but furthering our diplomatic interests. The result is more tariffs, industrial policy (subsidies), and lots and lots of sanctions. The goal is less trade and making more stuff domestically—so I guess higher prices and a slower-growing economy too.

The justification is national security, and there are some cases where it is valid, such as Iran building a nuclear weapon or a country with an immoral regime, like apartheid South Africa. But if you listen to the rhetoric and look at our policies, this is not just about security; it is also about “resilience” and domestic jobs. These things never stay a “small walled garden” for long—not when politics is involved.

I am not sure it is making us safer anyhow—just the opposite. We have lots of sanctions on Russia, and their economy is not suffering too much. That’s because China and other countries we are less friendly with still trade with them. In the meantime, we are ratcheting up restrictions on China for all sorts of reasons that have nothing to do with security. The result is our non-friends are not only aligned militarily and politically, but also economically—and does that make the world safer?

Economic integration does have some security benefits. I suppose policymakers are disappointed that more trade with China did not transform it into a liberal democracy. But growing nations also tend to be more stable and less violent; interdependence also restrains some bad actions. Even if growth and freer trade do not yield all the political results we want, it is still worth doing.

The old way worked pretty well too. Billions of people no longer live in poverty and have longer, better lives. Americans also experience higher living standards and longer lives. We can’t let ambitious policymakers rewrite history for the latest political fashion—at least not without a fight.

It seems like this major policy shift was worthy of some discussion on the pros and cons, and a clear-eyed discussion of what worked with neoliberalism or what could be improved upon. Instead, it seems all non-economist intellectuals declared the economic liberalism a failure and are trying things that worked poorly in the past.

Bottom Line: I also think it is immoral to deprive people of growth—the best thing that has happened to humanity—unless the security need is clear and unambiguous.

I Blame Yale Law School

Other than some cranks, I can’t think of any economists who are the intellectual face of this movement. It seems to be coming from Yale Law School graduates. It is remarkable that there is an emerging Yale Law School view of economics that has become extremely influential on both the left and right. Our economic policymakers are increasingly Yale Law grads rather than business leaders or economists. On the Biden/Harris team: Jake Sullivan, Jennifer Harris, Mike Pyle, and Lisa Kahn. On the right, the big proponent is JD Vance.

The tenets of the Yale Law School of economics are a skepticism of free trade, markets, and large corporations and the belief that the decline in manufacturing jobs was a policy error that needs to be remedied rather than the result of an evolving economy.

It is very different from how economists are trained to think. We have a non-zero-sum view of growth and believe trade makes us richer, brings collaboration, and innovation. Trade may be the only thing we think is a free lunch because most other policies involve trade-offs. Perhaps we can restore low-skill, labor-intensive manufacturing to the Midwest, but all other Americans will pay a steep price for that, both in terms of higher costs, debt, fewer jobs that depend on cheaper inputs from abroad, and future prosperity. In our view, economies constantly evolve, and industries no longer serve workers the way they used to. If we fight that, we all get left behind. We may not be a nation of unionized manufacturing workers, but we aren’t a nation of farmers either. And we do still make things, just with fewer, more skilled people—and that’s a good spot for the economy to be in, even though we can do more to help those left behind adapt.

I don’t know what it is about Yale Law School that is creating a different view of the economy among its graduates. Perhaps Yale Law School just attracts people who are politically ambitious and talented (more so than the average economist), and a desire and promise that you can manage the economy is a compelling argument. Just look at how people talk about the Fed!

I guess the influence of free-market economists for the last few decades was what was unusual.

Until next time, Pension Geeks!

Allison