Inflation is a disease that disproportionately affects the poor. Even before Vladimir Putin launched his brutal war against Ukraine, the consequences of which include rising energy and food prices, inflation was already above 7.5% in the United States and 5% in Europe and the United Kingdom. Therefore, calls for it to be stopped are fully justified. In this sense, the rise in interest rates in the United States, which is also expected in the United Kingdom, is not surprising. That said, we know from experience that the cure for inflation tends to further devastate the poor. The new edge we are facing today is that the so-called solutions threaten not only to deal another cruel blow to the most disadvantaged but, ominously, to stifle the desperately needed ecological transition.
Two influential currents dominate public discourse on inflation and what to do about it. One calls for inflationary flames to be doused immediately through the “shock and awe” version of monetary policy: raising interest rates sharply to stifle spending. They warn that delaying monetary violence a bit now will only require “Volcker shock” levels of brutality later; a reference to Paul Volcker, adviser to President Obama and former chairman of the US Federal Reserve, who quelled the hyperinflation of the 1970s with sky-high interest rates that have marked working-class America to this day. The second current argues that this measure is unnecessary, betting on a position of “staying the course” while wage inflation is kept at bay.
The two currents also agree that, to fight inflation, the supply of money and credit must be treated in a two-step sequence: central banks must first stop generating new money and only then raise interest rates. Both are recklessly wrong on both assumptions. First of all, wage inflation should be welcomed, not treated like public enemy number one. Second, it is precisely when interest rates rise that central banks must continue to manufacture money. Only this time they should put it at the service of green investments and social welfare.
Since 2008, inequality has been allowed to rise. Twelve years of central bank handouts to the rich, coupled with punitive austerity for the majority, have led to chronic underinvestment and low wages. Central banks uprooted the money tree viciously to boost stock and house prices, while wages languished. Asset price inflation and mind-numbing inequality thus became the order of the day. Ultimately, almost everyone agreed, including many of the big fortunes, that wages needed to rise not only in the interests of workers, but also because low wages underpinned underinvestment and created low-productivity societies. low qualification, low prospects and a poisoned policy.
Surprisingly, all it took for this consensus to fade was a modest, by historical standards, wage inflation caused by post-pandemic lockdown labor shortages. After a decade of turning a blind eye to rampant asset price inflation (even celebrating it, in the case of skyrocketing house prices and bustling stock markets), a breath of wage inflation brought the authorities in. in an almost uncontrollable panic. Suddenly, the prospect of rising wages turned from a target to a threat, prompting Andrew Bailey, governor of the Bank of England, to call on workers to put their wage demands under “obvious contention”.
But this is not a situation that was already experienced in the seventies, when the working class was the only victim of interest rate hikes. What is critically different is that, today, a “Volcker shock” may well stifle the green transition along with much of the labor share of national income.
The counter-argument is, of course, that neither workers nor society’s ability to invest in the green transition will benefit from wage increases that are outweighed by rising prices. It’s true. But what is also true is that a monetary policy that prioritizes preventing wage inflation, even if it succeeds in nipping inflation in the bud, will only lead to another wasted decade marked by underinvestment in people and nature. The working classes could rise up in ten years to claim the share of aggregate income they deserve. Instead, there is no doubt that another 10 years of underinvestment in the ecological transition will bring us all to the brink of, if not extinction, of irreparable damage to humanity’s prospects.
So how can we tackle inflation without jeopardizing investment in the green transition? What is the alternative to class warfare in the form of a hard-hitting interest rate policy that reduces the money supply across the board, either violently (as shock-and-awe proponents propose) or more gently ( the suggestion to stay the course)?
A decent alternative policy should have three goals: First, to suppress asset prices (such as house and share prices) to prevent scarce financial resources from being wasted on the accumulation of paper values. Second, to drive down the prices of basic products, while allowing a higher return on investments in green energy and transport. Finally, invest heavily in energy conservation and green energy, transportation, and agriculture, as well as social housing and care. The triple political agenda set out below can achieve all three of these goals.
First, raise interest rates considerably. Extremely low interest rates have not spurred investment and, in any case, were never within the reach of those who needed or wanted to borrow money to do things society needed. All very low interest rates did was boost house prices, stock prices, inequality and everything else that divides society.
But second, this needs to be done in concert with a massive green public investment push supported by the central bank. Naturally, raising interest rates will not boost investment, although it is true that interest rates close to zero did not help investment much either. To break out of the underinvestment quagmire, the central bank should announce a new kind of quantitative easing: it should stop funding financiers and instead promise to back (buy, if necessary) government green bonds that raise funds worth 5% of national income annually, a sum that will be directly invested in the green transition, giving society a fighting chance to do what it must to control the climate crisis.
Finally, extend the same model of public financing (ie getting the central bank to back government bonds) to invest in social housing and care.
In short, what I am proposing is to reverse the toxic policies that have been in place since 2008. Instead of central banks providing free money and low interest rates to the rich, while the rest languish in austerity prison, the central bank should make money to the rich (through significant increases in interest rates) and, at the same time, provide cheap money to invest in what the majority of people and the environment in which they live need and deserve.
Yanis Varoufakis is co-founder of DiEM25 (Movement for Democracy in Europe), former Finance Minister of Greece, and author of Conversations with My Daughter: A Brief History of Capitalism (Destiny Publishing).
Translation by Emma Reverter.