Conquering (American) inflation

► In 1979, when the world was hit by the second oil shock, inflation skyrocketed, reaching two digits. Jimmy Carter appointed Paul Volcker to the Fed, and Volcker immediately hiked the interest rate and curbed all monetary aggregates, M1, M2 and M3.

► By November 1980, the FFR hit 17%. Carter lost to Reagan in the meantime but Reagan left Volcker in charge. Volcker’s crusade continued and in June 1981 the FFR peaked at 20%.

► The result was historically named the “Volcker def lation”, which initiated the “Great Disinf lation” of the 1980s. However, this was not the end of the story. The “Volcker deflation” also triggered the worst recession since W WII, whereby unemployment skyrocketed to 11%.

► Inflation was down to 4% and the USD/GBP rate was almost at par for a few years. American fixed income had become very attractive compared to the Deutsche Mark, Sterling and other major currencies in the aftermath of the Volcker deflation.

► The dollar lost value against the Deutschmark only after the multilateral intervention in 1985. The G-5 countries called for an “orderly appreciation” of the major currencies against the dollar and the U.S. agreed to take full part in the co-ordinated exchange market intervention. Volcker stepped down in August 1987, two months before “Black Monday”.

► The Fed has been reluctant to raise the policy rate although there is no talk of a clear bias against raising rates. In fact, after 2008 all central banks have waited a long time before tightening to make sure timing is right.

► After the recent inflation print, the likelihood of tightening increased. However, I am sure the Fed will initiate a rate hiking cycle in March. However, may be too soon given the pattern of Fed’s decision making in the last 14 years.

► U.S. inflation was “conquered” in 1984, according to many prominent economists. The peak was 13.55% in 1980. So, the so-called 1982 summer peak, 39 years ago, was in fact not a peak: inflation was actually falling then. Today’s 7% is entirely different. It may indeed be the peak of the current cycle.

► As for the Turkish inflation, nobody knows who could “conquer” it given current policies.