Great Inflation’s Echo From 1966 Serves a Warning to Yellen Fed

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Federal Reserve Chair Janet Yellen Delivers Semiannual Report On The Economy To The Senate Banking Committee

Janet Yellen, chair of the U.S. Federal Reserve, speaks during her semiannual report on the economy to the Senate Banking Committee in Washington, D.C. on July 16, 2015.

Photographer: Drew Angerer/Bloomberg

Bob Dylan released “Blonde on Blonde” and Ronald Reagan was elected governor of California. “How the Grinch Stole Christmas” was televised for the first time.

And when no one was looking, the Great Inflation took off.

That’s what Michael Feroli, chief U.S. economist at JPMorgan Chase & Co., wants us and Federal Reserve Chair Janet Yellen -- then a Brown University undergraduate -- to remember from 1966.

Feroli, who wasn’t born until 1972, says the risk is that Yellen waits too long before starting to end the free money era.

His brief history lesson: In January 1966, inflation as measured by the personal-consumption index excluding food and energy was about 1.3 percent, not far from where it is today, and unemployment was falling below 5 percent.

By the end of the year, core inflation had accelerated to 3.1 percent, the start of a climb that peaked at 10.2 percent in 1975. The rate didn’t fall below 2 percent again until 1995.

So why, after raising its discount rate -- the Fed’s then-benchmark -- in January 1966 to 4.5 percent, did the Fed hold back? Feroli attributes the pause to presidential pressure. Lyndon Johnson invited then-Chairman William McChesney Martin to his Texas ranch and shoved him against a wall in anger at his efforts to slow the economy.

Congress Grumbles

Yellen, who is unlikely to receive similar treatment from President Barack Obama even as some in Congress grumble about the central bank, is already alert to the risks of delay.

As well as trying to avoid acting prematurely as their predecessors did in 1937, policy makers “want to be careful not to tighten too late” for fear of “a situation where we would then need to tighten monetary policy in a very sharp way, which could be destructive,” she told lawmakers this month.

Fed policy makers on Wednesday refrained from indicating the likely timing of the next rate increase, while keeping market expectations focused on a move as soon as September.

Feroli predicts an increase in the benchmark rate from near zero in September rather than December as Goldman Sachs Group Inc. reckons. While economists at Deutsche Bank AG see the Fed moving in September, its fixed-income analysts said in a report last week it’s “more likely than not” the central bank will wait until next year.

“The experience of 1966 provides an obvious lesson to the Fed,” Feroli wrote in a note to clients last week. “Waiting for inflation to accelerate entails a game of catch-up that can last several years and necessitate a painful recession to restore stable inflation expectations.”

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