The Biden administration has undertaken an aggressive effort to revitalize domestic manufacturing, particularly in areas like semiconductors and green technology. The reasons are manifold. The pandemic exposed frailties in the supply chain. Climate concerns have accelerated the urgency around the energy transition. And anxiety about growing Chinese dominance in key areas (such as batteries) have heightened geopolitical concerns. So now, day after day, we see spates of announcements of new factories being opened up in these areas. But what are the risks and dangers? On this episode of the podcast, recorded at Jackson Hole, we speak with Adam Posen, a former member of the Bank of England Monetary Policy Committee, who now serves as president of The Peterson Institute for International Economics. He warns that the basic logic for the domestic industrial policy is misguided and based on faulty understanding of domestic economic dynamics. He suggests that we're taking a wrong and dangerous approach to dealing with perceived competitive threats from China. This transcript has been lightly edited for clarity
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Key insights from the pod
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The four big risks of US industrial policy — 3:16
Can industrial policy be good? — 8:05
Is manufacturing worth subsidizing? — 10:54
What about supply chain resilience? — 16:23
How to address the rise of China — 21:02
How the US is competing with China — 24:43
How industrial policy could go bad — 31:45
Monetary policy in an age of fiscal activism — 36:07
What explains the decline in US productivity? — 41:34
Can trade wars lead to hot wars? — 43:55
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Joe Weisenthal: (00:10)
Hello, and welcome to another episode of the Odd Lots podcast. I'm Joe Weisenthal.
Tracy Alloway: (00:15)
And I'm Tracy Alloway.
Joe: (00:16)
Tracy, you know, we're still here at Jackson Hole.
Tracy: (00:20)
Still hanging on.
Joe: (00:20)
We're not really in the actual event space, so we're just sort of hanging out in the lobby looking for people. It's like, ‘Hey, do you wanna come on? Do you wanna come on the podcast?’
Tracy: (00:28)
And we found a person.
Joe: (00:29)
We found a person! We have the perfect guest, actually. But one thing I'm really excited about, one of the things we've been talking about already is this idea that, you know, monetary policy, it's always challenging. It's always challenging when you have things like Covid, the war, etc. But we're also in a period in which fiscal policies, macro policies, trade policy, industrial policy, these things that we talk about on Odd Lots all the time, like, how do central bankers deal with them?
Tracy: (00:57)
Absolutely. I feel like I've said this a number of times at this point, but one of the themes of this meeting seems to be how do central bankers get a better understanding of the real economy and then actually respond to it? So things like supply chain issues. Or booming fiscal spending. How does monetary policy actually react to that? And it is fairly new at a time when the unemployment rate is at multi-decade lows, we have this huge runup in the deficit.
Joe: (01:27)
Right. And people always talk about like the sort of 40-year period, where we had liberalization, globalization, etc. And then in the 2010s, sort of with fiscal activism really taking a backseat. Not much — probably not enough by many people's accounts of like demand management on the fiscal side.
And now we're getting the reverse, right? Because we had the aggressive expansion. We're also having these, in the US in particular, these very aggressive domestic investment plans, right? Climate. Semiconductors. It intersects with trade in a very big way. Tensions with China. An attempt to move supply chains, particularly around advanced tech or clean tech on US shores.
And so how that's going to work, how should economists think about it? How should regulators think about it? How should central bankers think about it? Is sort of like a huge question that hangs over all this.
Tracy: (02:18)
Absolutely. And you're right, we do have the perfect guest.
Joe: (02:20)
We do have the perfect guest because he's someone who spans all of these topics. We're going to be speaking with Adam Posen, president of the Peterson Institute for International Economics, also a former central banker, a member of the Monetary Policy Committee at the Bank of England. And someone who lately has been somewhat critical of the Biden administration and some of the domestic policy and trade choices that the administration has made. So let's have a conversation with Adam. Adam, thank you so much for coming on Odd Lots.
Adam Posen: (02:48)
Thank you Joe. And thank you for the generous introduction.
Joe: (02:50)
Let's just jump right into it. You had a piece, I think in March, in Foreign Policy that's got a lot of attention. I still see people talking about it. Adam Tooze recently wrote about it in his Chartbook and said like, this is the sort of, I think in his view, one of the ‘defining critiques.’ We talk about this all the time. We've had people who run the CHIPS program and the IRA, etc. But like, big picture, what is your concern about some of the domestic policy choices being made right now?
Adam: (03:16)
Thank you for referring to my article. And it is a concern that not just the government's getting involved in industrial policy in the US. The US, as you've talked about previously, I've heard some episodes at various times since its history. There's been public investment by the US in technology. There's been more aggressive, less aggressive efforts.
What I'm worried about are potentially four big things:
First, so much of this has been cloaked as rescuing the industrial sector and not so subtly buying the votes of angry white industrial workers who feel left behind in Wisconsin and Pennsylvania and West Virginia. And I understand that's a need. I'm not sure it's going to work. I'd like to think there's other ways to win an election, but the good news on that is several of the people who advocate this policy have now admitted, you know, even if it goes well, we're talking affecting a few towns, several hundred thousand people, which matters, but isn't going to make a thing.
The second thing which I'm much more concerned about is whenever you create a government program that's about giving money to individual companies, and you combine it with this trade policy, that's very much as the president keeps saying, ‘American made, American built, American exports by America, by America,’ that you end up with creating what we used to complain about a lot in Japan and Korea and China and Europe, these national champions. So, you know, it may be that Intel or Micron, just to pick two of the names that are out there, are great companies with great tech, but you put them on the government payroll for billions of dollars. And you say that we want to make sure there's an American presence in this industry, American leadership in this industry, and they can end up taking you to town. And frankly, if Trump gets back in, the corruption opportunities are horrible.
Third thing is, internationally, I'm hopeful that the Biden administration is realizing that they went a little too far on their anti-trade rhetoric. We can debate how much trade has been fair or unfair and how much that matters. But in the context of what you said in the lead in, and again, I know you've spoken about this with other people, you know, the US has been basically withdrawing from globalization for 20+ years. Everyone thinks, ‘Oh, globalization did us in’ but we've actually, since NAFTA, we've done almost no trade deals. We've cut way back on immigration. We take a lower amount of investment from abroad than we used to. And there's all kinds of blowback from this. There's foreign policy blowback, there's development blowback in the south, the global south. There's technology races. And so this ends up with these things like these subsidies races that we're having with Europe and de facto with China.
Now, final point, sorry to go on so long, but the biggest thing is where I think the Biden administration is right, is the US had to do something constructive on climate. I mean it's an emergency. We weren't doing anything, and or at least the government wasn't. And so they were trying to figure out a way they couldn't do it, a carbon tax. They couldn't do a lot of things. This package of investments, as they call it, was supposed to get us some climate progress. And my worry is that it's going to end up being a repeat of what happened with Covid vaccines, which is the developing world — and even the relatively high income developing world, places like Brazil or Turkey — are not going to get the access to this technology. Or when we have good green technology, it's going to become a political football. Are you loyal to China? Are you loyal to the US?
And for saving the planet, to put it bluntly, the most important thing is when we get good new green tech, it gets used and adopted as widely as possible. And this is where I've been particularly trying to engage with the Biden administration to the extent they have interest, is to say, if you're doing this whole bundle of industrial policy and trade policy and nationalist policy, how do we make sure that the technology does get down? That it's not like with Covid vaccines that you hoard it off yourself and you make it a political loyalty test. Do you buy from us or do you buy from them?
Tracy: (07:33)
So many different directions we could go in already. And we're sort of talking about multiple different policies at once. So let me step back and ask a big picture question, which is, is there a good model of industrial policy in your mind? Can you sort of distinguish between bad industrial policy that potentially leads to protectionist outcomes and perverse incentives and, you know, good industrial policy that does achieve the outcomes that are intended?
Adam: (08:05)
It's a very good question, Tracy and I think the devil's not in the details, but the devil is in some basic design choices. So one aspect is, I think it's much better to have the public investment going more into infrastructure, more into public goods. And some people associate with the Biden administration say, well, that's that old neoliberal thing. That that didn't work. But actually those parts did. We just didn't spend enough. So invest in universities, invest in R&D tax credits, invest in skilled immigration, invest in infrastructure of power, grid and fiber, and EV-charging stations if that's how you want to go.
The second thing is, and to be fair, the Biden administration and the Congress have done a little bit on this, is to make it so that even if you're trying to get production at home for say a good reason, like we need to have some semiconductor capacity in the US, manufacturing capacity in the US, you still leave it open that there's room for competition from abroad.
So you're trying to avoid the whole corruption and international backlash, or at least reduce those aspects by saying, okay, if it turns out it's a German or a Korean or a Japanese company that has the good tech, you know, we're not going to prevent or discourage our people from buying it or discourage them from selling it here.
And again, there are some loopholes like this whole leasing deal they made for electric vehicles in the bill that they could make. There's more things they can do. But, so anyway, to me, those two things that a lot more of the public investment goes to general good. And rather than the specific company capacity, and that you make sure that there is competition including international competition for the industrial policy goals you have.
Joe: (10:00)
I want to go back to something you said, and I think there was a little bit of controversy when you may have said this, in another context, but the idea of like manufacturing, the politics of manufacturing, maybe the nostalgia for manufacturing. And you mentioned okay, the China shock really hurt certain areas of the Midwest. Is the point of accelerating domestic manufacturing to maybe placate, you know, several hundred thousand white men in the Midwest by reinvigorating that.
But there is another school of thought that I find interesting, which is that, you know, actually manufacturing is really important. Complexity is important. Ability to produce advanced goods is an important aspect of being a rich country. Is that false? Do we just have this sort of like false nostalgia for the benefits of having a manufacturing economy?
Adam: (10:54)
I think both issues you raised Joe are right. And just to be clear, you know, white males have just as much right to government largesse as any other group in society. And anything I've said to indicate otherwise was mistaken. I mean, but it is this idea — nostalgia is the word I used, thank you — Trump had a lot of this but I think Biden has some of it, that, you know, there was this sort of golden era when a person without a high school diploma could make a really good living in a plant and that plant would employ lots of people in one place and they could depend on the job and so on. And this created a community and all this.
And the point of calling it nostalgia is, and meaning that's a bad thing, is threefold first that really only applied to a small number of people. I mean, even at its height, you know, manufacturing share of employment in the US, I don't think ever got much above 30%. And that was in the immediate aftermath of WWII. And obviously there were people, women, people of color, who didn't have equal opportunity in that space as other people. But anyway, so that's still a lot of people. And even now it's 13% of employment. It's still a lot of people. But just to say it was never, ever going to be the engine for everybody.
The second thing is to say that there is a bias in that that underplays just how adaptable a lot of Americans, white, black, female, male, everybody has been, you know, moving around the country, immigrants who come here, but people who moved in the great migrations from the south to the north for manufacturing and then out of the north back into the south and to the west. But also communities that came back up. We think about, you know, Charlotte, North Carolina as a financial center. Durham is a technology center. There's this whole area in North Carolina that, you know, several decades ago was tobacco. And Pittsburgh, everybody always cites it because it's amazing. Pittsburgh is now a health center and many other things, and it's not steel anymore. And so there is this sort of bias towards not understanding change is part of economic life and it's actually good.
But the third thing, which is where I guess it gets a little more controversial is, for some people, and I think this was much more true of Trump and some of the people who supported him, there's this sort of idea that macho tasks of large hot metal or big heavy things you can drop on your foot is just somehow more worthy.
Tracy: (13:40)
The allure of welding.
Adam: (13:41)
Yeah. Well, and you know, and Tracy, as people point out, you don't make fun of people for that. That's fine. For some people that's a real calling and they really want to do it. But the idea that every son of a welder or daughter of a welder wants to be a welder and should want to be a welder and doesn't want to like, maybe go into a white collar job or maybe work indoors or outdoors or whatever, is just weird.
And so, sorry Joe, your big point, which is the more important one, is can we survive if we don't have a vital manufacturing sector?
Joe: (14:14_
Or at least advanced manufacturing?
Adam: (14:15)
Right. And I think the answer to that is, well we do, we just don't have as much manufacturing employment as we used to. So if you, it's just, you look at the very basic numbers, the share of the US economy in value-added in manufacturing is basically unchanged or even slightly higher than it was when the manufacturing employment share was much more, which is another way of saying productivity in manufacturing's gone up enormously. We're producing more value of stuff at the higher end with fewer people.
And so in a sense, we can debate that question you raise, but it's also it’s just not even a realistic question. So look at the semiconductors. Yes, it's true. We did not take into account, and I say ‘we,’ I mean everybody, did not take into account just how dependent certain kinds of semiconductors were on this obviously exposed very specific set of plants in Taiwan. But the fact is there's a huge number of components of semiconductors, including the ones made by TSMC and the ones made by Samsung and Hynix and others that are dependent on American technology. They're dependent on American design technology. They're dependent on American intellectual property. They're dependent on American components. And it's the low end stuff the US doesn't make anymore. So in theory it's a good question, but in practice it's not one we even have to face.
Tracy: (15:54)
So you brought up semiconductors and they are probably the best example of this. But if you take some of these stated goals of this new industrial policy at face value, it feels like a lot of it was sparked by things that happened during the global pandemic when it did become somewhat difficult to get critical components from the east to the west. How do you address that supply chain resiliency concern?
Adam: (16:23)
I think there's no question, Tracy, that from some sort of optimal planning perspective, meaning, you know, if the government tries to take the interest of the whole society or economy rather than an individual company or investor, we were past the point of of resilience. We had too few nodes.
But it's important to recognize that didn't happen because of somebody making a stupid decision. That didn't happen because of some perverse government incentives that happened organically. I mean, you would have things where multinational company, the CFO on an earnings call or whatever would say, and we're going to cut costs 15% next year, and somebody working in a plant four levels down says, ‘Oh my God, I got a memo. I gotta cut costs 20%.’ And they figure out, ‘Oh, if I order this from Korea or this from Mexico, I can get it cheaper.’
And over time that works. And you realize, oh, there's a whole group of companies down there in Mexico, maybe I can do some more from them. And it just developed organically. And during Covid, we at Peterson tried to look more into this and we discovered it really was that way. That we, I'm not going to name them, but we would talk to major global manufacturing companies and say, we just want to do research. We just want to understand what your supply chain is. And the response we kept getting was, ‘We don't really know. It just sort of grew up and we're just now figuring out where it all is.’
So anyway, that doesn't mean it's still valid for — I don't want to do a double negative — it's still valid for the government to say, you know, in certain critical industries, the interests of the society, the economy are not being taken into account by all these decentralized decisions. But it's worth remembering that even if that's right, by creating resilience, what you're essentially doing is you're saying, ‘I'm taking out a costly insurance policy. I'm building redundant capacity. I'm buying something that's more geopolitically safe, but more expensive.’ Because remember, there was a price reason why it was done the way it was done. There was a reason stuff was being produced in China, not Mexico. So it may be worth it.
And this is the thing I tried to argue in the past. I mean, it may be worth it to do that from some societal perspective, but we shouldn't pretend that it's going to be short-term beneficial for productivity or profits. Because what you're doing is you're buying insurance. You're spending money against a bad outcome.
The other point, just echoing something we were talking about a minute ago is the international side, right? As an economist, and when you talk about resilience, the issue is diversification. It's not necessarily reshoring domestic. I mean, it gets a little confused because if you decide China's a strategic rival or worse, then it may be you don't want China, or you may want to distinguish friends for friend shoring. But ultimately what you care about is diversification. And so if you have one plant in the US and it's hit by a local flood, or it's taken over by a terrorist group within the US or it's corrupt the same way a corrupt company appears in a different country and it produces substandard products and you haven't diversified from that, you're still in trouble. So these are the cautions I would put in.
Tracy: (19:52)
So I'm glad you brought up China because this leads nicely into the other thing I wanted to ask you, but how much of the current industrial policy do you see as a direct response to a potential either economic or geopolitical threat from China?
Adam: (20:08)
One thing that's true of big economic policy decisions in Washington anywhere, just as it's true of committee decisions in central banks, is your goal is to get the majority of people to say ‘yes.’ They can each say yes for a completely different reason. You don't need to have a coherent one set of reasons why you say yes. You just want all the people to say yes, right?
And so we had in a sense the perfect storm behind the set of policies. So there were people with legitimate concerns about China, and particularly from the point of view of supply chain resilience, but also international security. There are people with over-hyped crazy concerns about China fearing Chinese students, I think to an excessive degree for example. There are people who were very concerned about resilience coming out of Covid, in the way you said. There are people who were very concerned about these left behind post-industrial communities. There were people who were, you know, you could go down the list.
There were so many reasons for this policy. And so, you know, for someone like me to be arguing against it is in some way sort of silly because it's overdetermined, right? There's a thousand reasons why they're doing this. When we talk about China specifically, I have a new article out in Foreign Affairs, and I argue we should be thinking to put a bumper sticker on it more in terms of suction than sanctions. That Xi and the Communist party have messed up their economy by being interventionists, in people's faces, not just politically, in a way they hadn't been for decades. That, I mean, obviously the Communist Party, the leaders ruled China, but there was, what I called a no politics no problem deal, that you see in a lot of autocratic societies,
Tracy: (21:55)
Deng Xiaoping and Idiot Sunflower Seeds!
Adam: (21:57)
Exactly! I was just rereading that. Perfect. You know the reference in the bio. Well, I was just rereading that part of the bio of Deng that Ezra Vogel did a few years ago. And so you see this in a lot of countries. This was true even under Putin in his early days in Russia. Basically you don't protest in the streets, you don't run for office against me. You do the occasional bribe, I'll leave you alone to pursue your livelihood, to run your small business.
But now Zero Covid comes along and everybody has to study Xi Thought and all these other things. And the average Chinese person is spooked. Anyway, the upshot of this is I think we need to worry less about containing China in the economic sphere, except for some very specific national security technologies. You can make a case, I think it's more that let Xi put up barriers, put up interventions in his society, let us and the other allies attract capital and people and investment out of China.
This worked against the Soviet Union, this worked against the fascists in the thirties. I'm not saying there's gonna be wholesale exodus of millions of people, but you want that positive sort of suction pressure on Xi and the regime. And then what usually happens is, as we saw in the Soviet case, and as we saw in various other places, the leader in Latin America, the leader puts up more and more restrictions. And because he gets worried about the money and the people leaving and he worries about the attractiveness of the alternative, and the more he and his party put up restrictions, the more the people want to leave. And I think that's the kind of dynamic we should be leaning into, if I can use that phrase.
Joe: (23:40)
We are definitely gonna have to do a history episode just about the story of the Idiot Sunflower Seed company and what that says about the history of the Chinese economic model.
But I want to continue along this line because, I think, I don't know, maybe like 15 years ago or pre-great financial crisis, you know, when people talked about Chinese trade, it was very much focused on like ‘what is the level of the yuan right now? Are they holding it too low and are they boosting exports?’ You don't really hear as much about that now.
The story is much more, well they're really doing a great job investing in domestic battery makers and domestic car makers. And they have this aviation company COMAC that might eat into Boeing and Airbus. And it's much less concern about pure, like they're competing [with] us because they're too cheap. And more like actually they're really getting good at certain high tech things. Is there concern that's legitimate, like maybe less about the currency level, but is there concern that we should have about, look, they're investing in their domestic champions, maybe we need to respond to them?
Adam: (24:43)
I think you've described accurately the way things have developed, Joe. Colleagues of mine at the Peterson Institute, Fred Bergstein, Joe Ganon, Morriss Goldstein, Nick Lardy 10, 15 years ago, were really out there screaming with good reason, with good arguments about the Chinese government's undervaluation of the yuan. And a lot of the talk about the China shock and some of this political backlash, frankly would've been muted if the US government, both Democratic and Republican, had listened to us and others and done something about the yuan undervaluation.
But to be fair, the Chinese government leadership basically around the time of the financial crisis, 2008, 2009, stopped undervaluing the yuan. They at least stopped intervening actively to push down the yuan very much. So that in sense, it mattered, but it was competing on cheap is different than competing on quality. You're absolutely right. And so now the issue is competing on quality.
And there I think it's less about fair/unfair than what are the risks? You know, throughout history, business history, modern business history, including competition within the US, you know, intellectual property theft, reverse engineering, getting around people's trademarks has always been a factor. And the Chinese corporate sector probably certainly was worse on this in some ways.
But I think you put your finger on it that it's more a question of investment. Now we in the US have been the envy of the world in commercial terms for decades because our investment system, for all our problems, for all what happened in 2008 and the run up to 2000, we do a better job of financing tech than anybody else does. And the Chinese have leapfrogged over the Japanese and the Europeans to become our closest rivals in doing this.
But we've also seen huge disaster for them, and which they've admitted to in their semiconductor industry, that they spent billions in US terms, billions trying to develop this high-end semiconductor industry for the last several years, even before the most recent conflict. And they had ended up admitting it didn't pay off at all. And they jailed a bunch of people for corruption. And we don't know how much was actual corruption versus just punishing poor performance, you know?
So just because they throw money at stuff doesn't mean they're there. So long-winded answer to say, you're right, they've shifted from competing cheap on trying to devalue their currency to competing strategically in some industries. I still think our allocation of capital is better and higher return than theirs, but there are definitely things we should be doing to invest. Going back to some things Tracy and I were saying a minute ago, invest in training, invest in skilled workers, invest in infrastructure, invest in protection of intellectual property, invest in standards that can help us get ahead.
Tracy: (28:07)
Can I ask Joe's question on a slightly wider scale, which is to what extent is the US now driving deglobalization versus responding to it? Because we're talking a lot about China, but of course China isn't the only country out there that is trying to boost domestic manufacturing or invest more money in strategically important industries.
Adam: (28:34)
It's a very troubling question, Tracy. And it's the right one. And it's what I and my colleagues have spent a lot of our last few years working on because roughly midway through Obama's second term, the consensus in Congress and in a lot of business, as well as the unions, already was us, had been played for a sucker in international economics and globalization. I think this is just fundamentally false.
As I mentioned, the US has actually been withdrawing from globalization rather than grappling with it for many years, arguably 20 or 25 years. And whether or not the US has been withdrawing, the existence of China, and even if they behaved well, the existence of 1.4 billion people who are capable of participating in the world economy matters. It's not going to disappear. And they have a right to make a living, even if their leadership doesn't have a right to do everything they do.
So the danger, which we've seen come true over the last few years, particularly under Trump, but somewhat continued under Biden, is to scapegoat foreigners, scapegoat China — [it’s] not even clear for what given how well the US economy's been doing in a lot of ways. But to just create this sense of we were cheated, we were played for a sucker, we should be the bully to some degree. That's what Trump and Lighthizer and others have said.
And I worried that some of the things the Biden administration said and did in the first couple years, particularly things Ambassador Tai, the US trade representative, has done on the trade front is like that. It echoes. I mean they independently, Tai and others believe this, but, you know, neoliberal trade liberalization destroyed our economy. Again, it's not clear the economy's been destroyed. Some people have suffered, but that happens all the time.
And that has to do with the fact that in our society we have a very miserly welfare state. And if our society would give a better welfare state, fewer people would suffer. But anyway, I am hoping that between some feeling for reality and the foreign policy realities as well as the economic realities and just some willingness to be open to basic fairness and evidence, the Biden administration is going to stop going in this direction. I don't expect them to tomorrow lift the tariffs and suddenly become free traders. We saw this in Secretary Yellen's speech a couple months ago, and to a lesser degree, somewhat grudgingly, but still there, in Jake Sullivan's speech, their two big economic speeches, which I know you've discussed.
Joe: (31:16)
What are you worried about? And by that I mean right now you could, like every day there's a new factory opening. It looks pretty amazing. There's a new battery factory and you know, there's a lot of investment and you look at some of these charts, the lines are going up, inflation is moderated and we're just talking short term things, but what worries you? What's the way this goes bad? Or what are the scenarios in which, okay, yeah, all this investment does not yield what people hope and what does that look like to you?
Adam: (31:45)
Well, I think first point is, again, I'm hopeful people are realizing this, but it's not going to create that many jobs. I mean, in the end, we only have a finite number of skilled people for constructing these plants and working in these plants. And unless you get a lot of other policies and a lot of other things going on, you're just going to end up moving some of those people from one job to another. So that's the first disappointment. Is that the end of the world? No.
Second, as I've tried to say and building on what you and Tracy were just talking about, is I think the international repercussions become real. I think if the Biden administration doesn't say, okay, we've gone far enough in this direction, or the Trump people come back in and go further in this direction, you start getting retaliation. So we're already in a bad situation where there's this subsidies competition between US and Europe and China.
And then to some degree some other countries are going to try to play, but they can't compete. And so it ends up like a really bad version of Boeing/Airbus. So yeah, it's good to have two companies producing planes. It's also not good that they both get enormous amounts of government subsidies in part because the other guy gets, the other company gets enormous amounts. It'd be better if we basically did arms control and, and took it down in equal amounts of reducing the subsidies on both sides and made a deal to keep that from going. And that starts being real big numbers. I mean, that starts being in the tens and hundreds of billions. I mean, that's real money that could be used for other things.
Third thing to mention, what you were saying since we're at Jackson Hole, is the inflation risk. So Chair Powell and his speech was perceived as slightly hawkish, more hawkish than expected. I think he was about where I expected him to be, but a tiny bit less hawkish than he should have been given where our labor markets are, which is wonderful, there is still a risk that we could see a resumption of inflation, a re-acceleration of inflation. And you know, there's a lot of chatter right now on Twitter about different charts and things, but…
Joe: (33:51)
We know the chart you’re talking about...
Adam: (33:52)
Yeah. But the main point is it's not, what's important to remember is, it's not unheard of in US experience, in other high income economies’ experience that you go through a disinflation, you get most of the way there, another shock comes along and inflation reaccelerates.
Tracy: (34:12)
A bullwhip effect in prices
Adam: (34:14)
To some degree. But it's also just if your— and this is the every good deed has its downside — if your labor market is like it is now, which is wonderful, which is unemployment measured below 4% and labor force participation back up where it was before Covid for prime age workers and you’re anti-immigration unfortunately, you get another shock.
And it could just be an everyday shock. You know, gas prices go up or suddenly because these investments in chips production start creating much more demand than we expect, then you end up with inflation sooner and sharper. And Chair Powell talked about that, the idea, there's this what he calls a non-linear Phillips curve, right? That if you're close to a very full employment and there's a recent history of inflation, inflation may increase faster than you'd like. So that's another risk. And that would not be good going into the election. That would not be good in the past.
Joe: (35:14)
I’m just going to say, Tracy, the two big peaks of the Grand Tetons behind the hotel we're at, every time I look at them now, I'm like, that looks like the two peaks of inflation in that chart right now.
Tracy: (35:27)
You see inflation risk on the horizon? Literally on the horizon!
Joe: (35:31)
I see on the horizon that peak in the, you know, in the mid seventies, the late seventies when I look out at the mountains.
Tracy: (35:36)
Okay. Well I'm glad this was Adam's last sort of risk factor because it segues nicely into the discussion of how monetary policy should respond to, the sort of fiscal policy that we're talking about. And I guess, I'm trying to think how to ask this question, but you are an inside person at the conference. We are not, we are outside rejects. So we have to rely on you, we have to rely on you to convey what people...
Adam: (36:03)
I think the term is hangers on.
Tracy: (36:04)
There you go. Hangers on.
Joe: (36:05)
I say lobby people.
Tracy: (36:06)
Okay, we're lobby people.
Adam: (36:07)
Oh no, central bankers don't get lobbied.
Tracy: (36:10)
So what are the discussions around fiscal policy in that room? Because on the one hand it feels like, you know, the actions of 2020, the unleashing of spending maybe made central bankers’ lives easier, at least in the short term. But now it seems like they're complicating them massively, especially if you don't know what industrial policy is gonna look like in the future.
Adam: (36:33)
No, it's great that you brought it back. We are here at Jackson Hole, and Joe definitely should become a regular if he looks at the Tetons and sees inflation charts. I mean, that's real central banker psyche.
Look I think the starting point has to be, it is very awkward and I've experienced this directly in the room, for central bankers to talk about fiscal policy. Because ultimately, if you're an independent central bank, which essentially all the free market countries have, the deal is politicians can complain about you, but they don't, or your policies — ideally not about you — but they don't interfere in part because you don't go out and lecture them on what's not your responsibility if you're a central banker. So your responsibility is monetary policy and some parts of financial stability and that's it. You're not supposed to be lecturing on fiscal policy.
And in developing countries or countries where governance is not, it’s not the same thing, but where governance is not as strong, you sometimes find central bankers feel they have to talk about fiscal policy and budgets and irresponsible policies, and it gets very awkward very quickly. So you don't want to do that if you don't have to.
But as you're saying there has been a shift towards more activist fiscal policy. And it's one thing during Covid, like you said, in 2020, you don't know what's going to happen. The world's facing a pandemic, you've seen unemployment spike, you've seen all kinds of things. And I think frankly, somehow the Congress and the Trump administration and the Biden administration did largely decent policies in the emergency. I mean, maybe Secretary Mnuchin, I don't know who to credit, but they really did do basically good policies for 2020 and early 2021.
The issue is going forward from here, we're looking at a world where there's likely to be sustained increased public spending in all the major economies. So China, G7, including US, people are spending on industrial policy and these subsidies wars and investment. People should be spending on direct green investment to try to get some better traction on climate. People, unfortunately, should probably be spending more on defense, given the behavior of Russia and the tensions with China.
And you start adding all these up and then all the stuff that our friends of the Peterson Foundation, which is separate, but cousins of ours, so to speak, you know about demographics and long-term sustainability issues. You know, you are seeing potentially one and a half, two, maybe even 3% average higher public spending over the next several years of GDP, sorry, 3% of GDP. That's a big number and no prospect that I see that taxes are going to be raised to cover most of it.
So that's a world that's very challenging for central banks. And how do you fit that in? And you say, so what was it like in the room? What was being discussed? Well, it's interesting that last year actually there was much more heated discussion and much more about this issue of could the Fed and others have raised sooner and more aggressively given what the fiscal policy was in the first quarter of 2021? Could they have adjusted more? Should they have adjusted more? And then if, and Gita Gopinath from the IMF raised this somewhat in her remarks last year, if there is this green transition, which includes a lot of spending, even just to adjust the economies, how should central banks react to it?
I'm phrasing it all as a question because, partly, there are no easy answers and partly because there's not anything close to a consensus yet in the central banking community on this. There's a little bit too much of, ‘Well, we can't talk about that. That's not our job.’ But they're going have to confront it.
What I will say is, so far this year, the discussions that I've heard are mostly about, in a sense, the questions of how this plays out into long-term interest rates and how this plays out into productivity growth. And those are the most important things for a central bank to think about for the long term. But they don't quite capture the political economy of this difficult game. And yeah, I wish I knew how to manage it.
Joe: (41:13)
Productivity. This investment in domestic manufacturing, domestic technology, things like that. Do you have any hope that maybe productivity statistics, which I think have been pretty mediocre for a while, maybe gone down, could they reverse? With smart public investment, could we see a reversal of that?
Adam: (41:34)
The slowdown in productivity growth, which started in roughly 2004 and has been evident basically for the last 10, 15 years is very concerning because the slowdown in productivity growth happened pretty simultaneously across all the high income economies at once. It looks and smells like what we call a technology shock.
So it isn't because the US underinvested in this or Europe, Germany didn't have enough workers of that, or Japan got older faster since we all basically slowed down at about the same time the same amount. It's probably something to do with what's global, which is technology. And the grim news about that is that puts you back in the world of the famous Robert Solow, the idea of what's called exogenous growth, that we don't really control it. So what I've always said is, what you want to be doing is having the government buy really expensive lottery tickets.
You invest in universities, you invest in promising technologies, you invest in infrastructure, there's no guarantee you're going to get the next big thing as Michael Lewis puts it at the other end. But it increases your chances. And this is like one of those good lotteries where there's only a thousand tickets. They're really expensive, but if you win, you win big. And that's the way to think of it. So then the question is, is the specific kind of spending they're doing on semiconductors and things like that, the best kind of lottery ticket? I don't think so. It can't hurt, but I'd much rather have them investing in broader technologies than the specific industries.
Joe: (43:16)
I just have one last question, but I don't want to forget it. You mentioned an unpopular comment [that] not many people say, ‘maybe we need to invest more in defense.’ There's that book that came out a few years, Trade Wars Are Class Wars, but do trade wars lead to hot wars? And do you worry that if we did see spiraling tit-for-tat subsidy races trade, that actually it could become more of a geopolitical story?
Adam: (43:39)
Short answer, yes. I think the Trade Wars Are Class Wars concept is actually a particular theory by Pettis and Klein And I have some issues with it. We don't need to go into that.
Joe: (43:53)
We’ll do a debate with them in DC…
Tracy: (43:55)
Yeah, that'd be fun.
Adam: (43:55)
That'd be good. If you want to make it happen, that'd be lovely. But I think the important thing is some of the Biden people, people like Pettis and Klein have attacked the idea, that sort of Tom Friedman worldview, that if we do lots of good globalization in trade, the world will become more peaceful. As with most things in social science, it's actually the reverse.
It's not that if you do good things, good things will result. It's if you do bad things, good things won't result. It's sort of the Obama ‘don't do stupid bleep’ version of social science. So there's no guarantee that when we did trade liberalization that China was going to become this wonderful, peaceful democratic place. There is a very high likelihood that if we have escalating barriers and sanctions and restrictions and hostilities in the economic sphere, that it will spill over and pump up hostilities in the military sphere.
So you can argue quite reasonably, don't oversell the benefits of trade to peace and democracy, but you shouldn't undersell how much active economic conflict can spiral out of control and cause other geopolitical issues.
Joe: (45:12)
Adam Posen, that was a real treat. I'm so glad we caught up with you here. That was a fantastic conversation. Really appreciate your perspective and thank you for, I can't believe it's taken us this long to have you on.
Tracy: (45:21)
Yeah, it's crazy.
Adam: (45:21)
No, I'm grateful. What's the old line? A long time listener, first time caller . So thank you for having me on Odd Lots.
Joe: (45:28)
We're going to have to have Carmen make a big reel of every time, all the important people who say they listen. But thank you so much and we should make that debate happen.
Tracy: (45:35)
That would be so much fun.
Joe: (45:36)
Yeah, have a conversation about trade and all this stuff.
Adam: (45:39)
I'd love that, that conversation. Thank you.
Joe: (45:54)
Tracy, I really enjoyed that conversation. A different perspective, a robust defense of trade and openness and some of the, you know, maybe ideas that aren't currently in fashion, but a reminder of why they want work.
Tracy: (46:10)
I think he brings up a lot of valid critiques, or potential risks. And I am taking notes for our next interview with a Biden administration official. The other thing I thought was really interesting was when he was describing how policymakers are sort of thinking about fiscal at the moment. This idea that actually it is very awkward because by design central banks aren't really supposed to opine on what politicians are doing fiscally.
Joe: (46:37)
Yeah. I really enjoyed his perspective. It is interesting too, like comparing 2022 and 2023. I really appreciate the sort of glimpse inside [the room], the vibe. One thing I appreciate is this sort of pushback against the idea that like the US economy has just been getting played for all these years, right? Because that was sort of a key plank of Trump, which is that we were the suckers and the reason that we couldn't be part of the Trans-Pacific Partnership, etc., is like we just keep getting screwed, right? In these trade deals. And the pushback is like, actually the economy's been all right. We've had our problems, but the idea that we've been getting screwed by free trade...
Tracy: (47:13)
Right. But I think it's, just going back to politics, it is such a harder story to tell that actually the US has benefited enormously from this trade system than ‘Oh, we have all these countries taking advantage of us.’
Joe: (47:27)
Well, and this is one of those things, and I think it's like the history of trade, is that the benefits are very diffuse and the people who have lost out are very identifiable.
Tracy: (47:37)
That's exactly it.
Joe: (47:38)
And this has always been an issue with trade probably going back hundreds of years in the history of trade. And so I think he sort of identifies that well.
Tracy: (47:45)
Yeah, we have to do that debate in Washington. That'd be fun.
Joe: (47:48)
Let's make it happen.
Tracy: (47:49)
Alright, shall we leave it there?
Joe: (47:50)
Let's leave it there.
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@adamposen