Photo by iStock/primeimages

Listen Now

How Will Inflation Affect the Economy in 2023?

You can also find this episode on Apple Podcasts, Spotify, Google Podcasts, and other podcast platforms.

As we look forward to 2023, the health of the domestic economy remains a concern as high costs linger, hiring slows, and salaries stagnate. Many industries in the United States and abroad have increased costs due to supply chain issues and other factors, leading to some of the highest inflation in recent memory. In this episode Doug Most and Laurence Kotlikoff, a Willam Fairfield Warren Distinguished Professor and a College of Arts & Sciences professor of economics, discuss inflation and the changing economic landscape, domestically and globally.

Have a question or topic idea for a future episode? Send an email to today@bu.edu. Bonus points if you attach a voice memo with your question.

Takeaways

• Inflation was high in 2022, but most economists now agree 2023 will show lower figures. Kotlikoff stresses that we will not be entering a recession unless we “scare ourselves into a recession.” The stock market thrives on confidence, so the media’s reporting around economics issues can affect real outcomes.
• Despite high holiday spending, Americans are hurting financially, as real wages are down while inflation continues to rise. Despite low wages, we are also currently seeing low unemployment, very high demand for workers, and increases in employment from month to month nationwide.
• Kotlikoff sees the economy recovering in the short term, but encourages diplomacy between the United States and China to ensure long-term economic prosperity. Moving forward, the economy will only continue to globalize and large economic players must figure out how to continue working together despite political disturbances.

Transcript

Sophie Yarin: This is Question of the Week from BU Today.

Doug Most: Let’s talk inflation. As we look forward to 2023, the health of the domestic economy remains a concern, as high costs linger, hiring slows, and the salaries stagnate. Many industries in the US and abroad have increased costs due to supply chain issues and other factors, leading to some of the highest inflation in recent memory.

I’m Doug Most, the executive editor of BU Today. And for this latest edition of Question of the Week, our guest today is Laurence Kotlikoff, a William Fairfield Warren Distinguished Professor of economics. Kotlikoff’s recent research studies global macroeconomic transition in the future of economic power, inequality, banking reform, marginal taxation, and even healthcare reform and social security. We’re going to have a conversation about inflation, what to look for in 2023 that’s going to impact all of our wallets and pocketbooks.

Laurence, thanks so much for joining us today.

Laurence Kotlikoff: Great to be with you, Doug.

Doug Most: So let’s jump right into it. This was sort of not a pretty 2022 when it comes to the economy—this was an ugly year. Do you expect in 2023 it’d be much of the same or do you anticipate perhaps a little bit of easing of the inflation? And so where do you see things going?

Laurence Kotlikoff: I think most of the inflation was due to supply side disruptions, supply chain bottlenecks. China is often on production due to their zero COVID policy, which now seems to be lifting to the war in the Ukraine, where it’s impacted wheat and other grain prices and also, well, energy prices. But if you look at the price of oil today, it’s lower than it was when Putin invaded. If you look at the price of wheat today, it’s lower than when Putin invaded. So what we’re seeing is that there’s other sources of supply and there’s also been a reduction in demand.

Like in Europe, there’s about a 15 percent, 20 percent reduction in the use of gas, which is quite amazing that factories and households can get by with so much less gas. But there has also been warm weather in the US and Europe that’s reducing the demand for gas. So I do believe we’ll probably have more like a 6 percent, 5 percent inflation and going down to 3 percent and 2 percent, well, 3 percent. Long-term, the markets suggest they’re looking at about a 3 percent long-term inflation rate, three years, two and a half. If you look at long-term regular interest rates on 30-year treasury bonds versus inflation index treasury bonds, the differentials are telling you about inflation.

Doug Most: It’s been interesting sort of how Americans have responded to inflation, because spending has still been sort of substantial. Americans sort of talk about their worries of inflation and yet sometimes you feel like how their spending doesn’t always equate with their fears. Why is that, do you think? Why do you think that Americans, even though we talk about being scared of inflation, being unhappy with inflation, being worried about inflation, and yet we still seem to be spending at a good clip—is there a disconnect there?

Laurence Kotlikoff: Yeah, I’m surprised because nominal wages haven’t kept up, so real wages have gone down. And I would think that people are shying away from going to restaurants as much because the prices are so crazy high compared to pre-COVID. So I am surprised that that’s the case, but it may be that there’s also people that are really hurt and people that are benefiting from inflation.

If you’re a debtor and you have a mortgage, you’re paying back in inflated and watered-down dollars, right? So you’re making money off of the inflation. On the other hand, if you own short-term, medium-term, long-term regular debt from the government, maybe you own treasury bills or treasury bonds, well, you lost 8½ percent in real terms over the last year because of the inflation if you’re on a fixed pension. Like maybe you’re a retired policeman in Detroit and your pension was already cut, through, say 40 cents on the dollar, already because of the bankruptcy of Detroit, and now it’s fixed in nominal terms. And you’ve lost 8 percent purchasing power, so somebody must be getting it in the next year in the country. So I don’t know what the aggregate numbers are telling us, but we know that some people must be hurting a lot because of this.

Doug Most: Yeah, the Fed has certainly come under criticism for how it’s handled this. Do you feel like they could have taken different measures or perhaps approached inflation sort of with a different strategy? Or do you feel like they did the best they could with obviously challenging times—the pandemic, the war, so many factors sort of and the supply chain, as you mentioned? What have you thought about the Fed’s handling of this?

Laurence Kotlikoff: I think it’s been quite good actually, I think what we’ll want to do is adjust the economy to deal with this temporary, basically supply side–driven inflation, index the tax system, get the social security system indexed. So people aren’t being taxed additional amounts because of inflation, because of the level beyond once your benefits are taxed. The level of what’s called modified adjusted gross income is fixed in nominal terms. So more and more people, just because of inflation, are subject to taxation on their benefits. And so we want to fix that, we want to live with inflation, not kill the economy, so we can get inflation down. I think that’s an appropriate economic view, and I don’t think how Jerome Powell, the [current] chairman of the Fed, is listening to somebody’s responding, but he’s basically not increasing interest rates that much.

Doug Most: We’re coming into the holidays, and I’m curious how much of a bellwether is holiday spending? Because obviously the holidays come right at the end of the year, how much of a bellwether [is it] for what’s to come in 2023? Or holiday spending at the end of 2022—should we not pay that close attention to it? In other words, if holiday spending is way up and if the numbers are tremendous, could that be a good sign of what’s to come in 2023? Or is it sort of a little misleading and wrong—don’t read too much into those numbers?

Laurence Kotlikoff: On December—the last quarter probably represents about 40 percent of your total spending across the year [and] it’s really high, so it’s a big deal. So if a lot of companies suffer much lower sales than expected or than last year, then that’s a signal that the economy is potentially going into recession. There’s potential, if we have enough people talking ourselves into recession, we will have recession, it will be a self-fulfilling prophecy.

Doug Most: I hate to bring politics into this conversation, but it’s impossible to talk about the economy and not talk about politics. We just came through sort of some pretty brutal midterm elections—some would say they were quite surprising, the results that we saw in those midterm elections were not what people were expecting. How much does that impact the economic future, where we’re headed? In other words, sort of Fed policy and decisions that are made and also the markets, how close do the markets pay attention to sort of who’s in charge of which way the political headwinds are blowing, so to speak?

Right now, despite everyone thinking that the Republicans were just going to dominate and take over, suddenly, the Democrats seem to have a little momentum. And so it’s going to be interesting, obviously, leading into 2024 and the general election. But I’m just curious sort of how that plays into sort of the markets and to the economy and where things could go.

Laurence Kotlikoff: Well, I think the fact that the Fed has done so little really, relative to the inflation, is really accommodating inflation. The market gets that, and they realize that they also know that this is a basically temporary supply side, I think, so that they’re happy with the Feds’ policy. I think they didn’t do too much, they didn’t do too little, it’s kind of just the right [amount]. As for stability, Biden is a mature, stable guy, I think he’s going to go down as one of the best presidents of the postwar. Maybe the best in terms of what he’s accomplished even in a difficult political environment. 

What happened in the election is that people that were radical, that thought the election was stolen, that they thought [or] think it’s okay to suspend the constitution, to move to autocracy, that our country’s democracy is up for grabs, they were systematically defeated. So what this message in the market is that things are likely to be much more stable. And therefore, the risk premium of investing in, let’s say, the stock market has gone down, so people are willing to add more insurance if they are going to get decent returns. And we want to have somebody who’s very elastic, who wouldn’t want a civil war or anything, at the switch erupting in our country, and we will. So I think that what’s happening was actually good for the market. It’s [going] to reduce the level of risk to the future, and that’s why I think you see the market basically going back up.

Doug Most: Do you see yourself as sort of a glass is half full or glass is half empty [person] when you look at the economy, and looking at 2023, do you see more signs for optimism? Or do you see more signs for sort of concerns and a little pessimism?

Laurence Kotlikoff: I think that people claiming we’re going to have a recession probably have taken short positions in the market to try. Think about, that Jamie Dimon, the head of JP Morgan—he said back in June that we’re going to have an economic hurricane. It could be category six, seven, eight, he doesn’t know, he can’t say for sure. Goldman Sachs was predicting a recession, now everybody’s changing their tune. So I think the psychology is changing, I think that the people that are trying to kind of make money off of bad times are realizing that they chose the wrong horse. So I’m optimistic that the economy will not be in recession—you have extremely low, postwar low, unemployment, very high demand for workers, very high increases in employment from month to month. I think we are fine unless we scare ourselves to death, unless we have too many people that are not [like] me speaking to people like you. So I’m optimistic, yeah, and basically, but I am pessimistic about the economy’s long-term future because our fiscal problems are so big. We need to address those in a serious way, and we can’t be the economic hegemonic through time [that] China’s going to take over. So we have to get a relationship with China that’s stable and it does not involve fighting over Taiwan, for example. We have to figure out how to manage that relationship without butting heads.

Doug Most: Okay, we’re out of time, but this has been enlightening, and I’m hopeful. I appreciate your optimism, glad to hear the optimism. So I appreciate your insights and your thoughts on this, it’s an important topic and weighs on every Americans’ mind, especially coming into the holidays, going into the new year. So I’m glad we were able to connect with you and talk economy, talk inflation. So thank you for your time today—we really appreciate it.

Laurence Kotlikoff: My pleasure; let’s do this more.

Doug Most: Yes, absolutely. Thanks again.

Laurence Kotlikoff: Yeah, and happy holidays to everybody.

Doug Most: Thanks, happy holidays to you.

Andy Hallock: This episode of Question of the Week was edited by Doug Most and produced and engineered by Andy Hallock. For more information about inflation and economic policy, be sure to check out the links in the show notes. Thanks so much for listening and we’ll see you again soon.

This Series

How Is the Conversation around Mental Health Changing among College Students?

Also in

• October 31, 2022

  Why Are This Year’s Midterm Elections Especially Important?

• October 17, 2022

  Will the Supreme Court End Affirmative Action?

• September 26, 2022

  How Do I Talk to a Climate Change Denier?

Series home