Blair Fix caused a bit of a stir last week on economics Twitter with a cleaned up version of the above chart taken from his article on interest rates and inflation. My chart is a scatter plot of the U.S. annual CPI inflation rate versus the effective funds rate, from 1954-2022. The blue line is the best linear fit of the two variables. The “linear model” suggests that inflation is an increasing function of the nominal interest rate.
Blair was met with a predictable howl of indignation on Twitter. Why predictable? The belief that higher interest rates reduce inflation (with a technical twist I note below) is pretty much enshrined as an assumption in neoclassical economics. (I use “neoclassical” as a fancy-pants word to describe “mainstream academic economics,” as “mainstream” is somewhat ambiguous if we are not referring to academia.)
Although the firestorm of indignation the article created was fun and if I had any commercial sense I would pile into it (and I did in the past). However, I have gotten more boring as I have aged. The real answer is that “things are complicated.”
It's the methodology, stupid. As usual.
One Weird Trick That Neoclassical Economists Hate!
Brian Romanchuk
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