AI Bubble, Inflation, and the Limits of Monetary Policy | Jason Furman

In Episode 453 https://hiddenforces.io/podcasts/ai-bubble-inflation-and-the-limits-of-monetary-policy-jason-furman of Hidden Forces, Demetri Kofinas speaks with Jason Furman, the former chair of the Council of Economic Advisers, about the state of the U. S. economy, the AI Bubble, monetary policy, inflation, price controls, and much more. Jason and Demetri spend the first hour of their conversation exploring his economic framework, what he learned from his time working inside the Clinton and Obama White Houses, and how these experiences shaped his perspective on the role of government in the economy. The two then delve into Furman's thoughts on artificial intelligence. They discuss whether we're living through an AI bubble, where Jason anticipates the greatest productivity gains from the adoption of AI in the U. S. service sector, and his perspective on AI regulation. They also discuss the limitations of our inflation models, whether we have a good working understanding of the causes of inflation, whether the Fed has implicitly raised its inflation target, and how large, structural deficits and political constraints will shape the Fed's ability to manage that target in the years ahead. In the second hour, Kofinas and Furman shift to a discussion about the politics of affordability and a growing sense, especially among younger Americans, that the costs associated with achieving the American dream have become insurmountable for almost all but the very wealthy. They debate the political appeal and efficacy of price controls, as well as the extent to which tariffs, industrial policy, and currency depreciation can or should be used to reshape global supply chains and rebuild U. S. domestic manufacturing in areas deemed critical for national security. They also discuss the US trade deficit and capital account surplus, what a weaker dollar may tell us about the government's policy objectives, how corruption, rule of law, and institutional decay might eventually feed back into foreign appetite for US assets, and what is at stake in the choice of the next Fed chair—both for the independence of the central bank and for the long-term credibility of American monetary policy. Subscribe to our premium content—including our premium feed, episode transcripts, and Intelligence Reports—by visiting HiddenForces.io/subscribe https://hiddenforces.io/subscribe. If you'd like to join the conversation and become a member of the Hidden Forces Genius community—with benefits like Q&A calls with guests, exclusive research and analysis, in-person events, and dinners—you can also sign up on our subscriber page at HiddenForces.io/subscribe https://hiddenforces.io/subscribe. If you enjoyed today's episode of Hidden Forces, please support the show by: Subscribing on Apple Podcasts https://podcasts.apple.com/us/podcast/hidden-forces/id1205359334, YouTube https://www.youtube.com/channel/UC8URhgYos5fjHqFSO4RSIEg, Spotify https://open.spotify.com/show/0TK6u251zGSlMgJKH6cOaP, Stitcher https://www.stitcher.com/podcast/demetri-kofinas/hidden-forces, SoundCloud https://soundcloud.com/hiddenforces, CastBox https://castbox.fm/channel/2629539, or via our RSS Feed http://hiddenforces.libsyn.com/rss Writing us a review on Apple Podcasts https://podcasts.apple.com/us/podcast/hidden-forces/id1205359334 & Spotify https://open.spotify.com/show/0TK6u251zGSlMgJKH6cOaP Joining our mailing list at https://hiddenforces.io/newsletter/ Producer & Host: Demetri Kofinas Editor & Engineer: Stylianos Nicolaou Subscribe and support the podcast at https://hiddenforces.io https://hiddenforces.io/. Join the conversation on Facebook https://www.facebook.com/hiddenforcespod/, Instagram https://www.instagram.com/hiddenforcespod/, and Twitter https://twitter.com/hiddenforcespod at @hiddenforcespod Follow Demetri on Twitter at @Kofinas https://twitter.com/kofinas Episode Recorded on 12/08/2025

Speaker names marked ? are inferred from speaking time and the show’s known hosts — they are not voice-verified.

• 0:00Demetri Kofinas?

  What's up, everybody? My name is Demetrius Graffinus, and you're listening to Hidden Forces, a podcast that inspires investors, entrepreneurs, and everyday citizens to challenge consensus narratives and learn how to think critically about the systems of power shaping our world. My guest in this episode of Hidden Forces is Jason Furman, professor of the practice of economic policy at Harvard University and a former chair of the Council of Economic Advisors, who comments regularly on the US economy, inflation, and monetary policy. Jason and I spend the first hour of this conversation exploring his economic framework and his time working inside the Clinton and Obama White Houses, and how these experiences

• 0:43Demetri Kofinas?

  shaped his perspective on the proper role of government in the economy. We then dive into his thinking about artificial intelligence, whether we're living through an AI bubble, how he thinks about AI regulation, and where he expects to see the biggest productivity gains from the adoption of AI in the US service sector. We also discuss the limitations of our inflation models, whether we have a good working understanding of the causes of inflation, whether the Fed has implicitly raised its inflation target, and how large structural deficits and political constraints will shape the Fed's ability to manage that target in the years ahead. In the second hour, we switch to a discussion about the politics of affordability, and a broadening sense, especially among younger Americans, that the social contract of their

• 1:25Demetri Kofinas?

  parents and grandparents is broken, and that the costs associated with achieving the American dream have become insurmountable for almost all but the very wealthy. Jason and I debate the political appeal and efficacy of price controls, and the extent to which tariffs, industrial policy, and currency depreciation can or should be used to reshape global supply chains and rebuild US domestic manufacturing in areas deemed critical for national security. We also discuss the US trade deficit and capital account surplus, what a weaker dollar may tell us about the government's policy objectives, how corruption, rule of law, and institutional decay may eventually feed back into foreign appetite for US assets, and what is at stake in the choice of the next Fed chair, both for the independence of the central

• 2:10Demetri Kofinas?

  bank and for the long-term credibility of American monetary policy. If you want access to this part of the conversation and you're not already subscribed to Hidden Forces, you can join our premium feed and listen to the second hour of today's episode by going to hiddenforces.io/subscribe. All of our content tiers give you access to our premium feed, which you can listen to on your mobile device using your favorite podcast app, just like you're listening to this episode right now. If you want to join in on the conversation and become a member of the Hidden Forces Genius Community, which includes Q and A calls with guests, discounted access to third-party research and analysis, and in-person events like our intimate

• 2:51Demetri Kofinas?

  dinners and weekend retreats, you can also do that on our subscriber page. And with that, please enjoy this thoughtful discussion about the US economy, government policy, and the long-term structural challenges and opportunities facing the country with my guest, Jason Furman.

• 3:12Demetri Kofinas?

  Jason Furman, welcome to Hidden Forces.

• 3:16Speaker 01

  Great to be with you.

• 3:17Demetri Kofinas?

  It's great having you on, Jason. I'm actually surprised that you've never been on the podcast before. You're a rather prolific commentator on the state of the economy. You've been in the economic policy business for at least three decades. Is that fair to say?

• 3:30Speaker 01

  Since the mid 1990s. So yeah, about three decades now.

• 3:34Demetri Kofinas?

  So tell me a little bit about you. Let's start even before that. I'm just curious how you got into the economics profession, what led you into this field, and then I'd love to learn about your, your experience in policymaking.

• 3:46Speaker 01

  Yeah, so I grew up and I just loved math and physics, but I also loved the political world and the set of issues that came up in political debates. And so economics was a really natural way to combine those two interests. You could think in a logical, disciplined, and rational way, but about topics that I think in some ways are more fascinating and more complicated and difficult than quarks and leptons, because people just don't behave quite as well as quarks and leptons do. So I got into economics. At first, it was in a pretty academic way, and then almost accidentally got recruited for a job in Washington at the

• 4:29Speaker 01

  Council of Economic Advisers. Originally, my plan was to take a year off from graduate school, but I ended up loving it. So even though I finished my PhD, I have always since then been on a much more policy-oriented track and way of thinking.

• 4:45Demetri Kofinas?

  It's interesting that you mentioned physics as being your other passion. Do you feel like your perception of economics as a more deterministic discipline has waned in the year since you've been practicing it?

• 4:56Speaker 01

  Yeah, it certainly has. I mean, when you're in grad school, when you're doing your research, you're writing very, I don't know that I'd use the word deterministic models because you can have randomness and propagation and shocks and all of that. But you have a completely self-contained, closed, fully understandable system described by a set of equations. And when I think of the world around me, partly I try to bring it back to some of those models. But importantly, I just said models plural. Don't just reduce it to one single model. And combine that with a certain amount of just trying to listen to how businesses think,

• 5:36Speaker 01

  how workers think, what's common sense, and combine all of that in a way that is admittedly less disciplined than just heaving exactly to one model. But I think probably a better way to think about the world than just living within the confines of one model as well.

• 5:58Demetri Kofinas?

  So you began to work, you said, on the Council of Economic Advisers in when, 1995?

• 6:04Speaker 01

  1996.

• 6:05Demetri Kofinas?

  1996, which was the Clinton administration, the second term. You know, I feel like the advantage of working in politics is that you probably have a more realistic sense of what's doable as opposed to just what makes sense in theory. I'm curious how that experience, working in politics, and tell us a little bit about what administrations you worked in, what period of time, et cetera. Like, how did that shape your perception of the economy, of economic policy, what works, what doesn't work?

• 6:33Speaker 01

  Yeah, so I was in the Clinton administration first at the Council of Economic Advisers and started out doing macroeconomic analysis. I would help draft memos for the president on a lot of the different data releases that would come out. We'd get the data a day in advance. So really learn how to read data, think about how the macroeconomy functions. But I quickly moved to basically the front office of first Joe Stiglitz and then Janet Yellen, working with them on basically every topic, helping them to write speeches, engage, et cetera.

• 7:08Speaker 01

  I went from there to the World Bank and then came back to the White House to the National Economic Council, which is a little bit more political and strategic. Then in the Obama administration, I did the opposite. I started as Deputy Director of the National Economic Council, working on issues like combating the financial crisis, our fiscal plans, debt limit, fiscal cliff, all of those sorts of things, as well as technology policy, infrastructure policy. And then in that administration, I transitioned from there to the Council of Economic Advisers, where I was Chair and worked on just about everything that we were dealing with. And in Washington, I think it's important to be able to wear different hats. When I was at the National Economic Council, it was

• 7:53Speaker 01

  a more political hat, more strategic, more, you know, what is possible. The Council of Economic Advisers is a little bit more like an in-house think tank within the White House. And there, I think it's important to be, you know, a little bit less political and a little bit more, you know, here's the best option, here's the second best, here's the third best, and not just try to jump straight to the third best, just because you think that's more politically feasible.

• 8:23Demetri Kofinas?

  Great. So we'll have an opportunity to apply it to a lot of the questions that I'm going to ask you today. So I have a lot of questions to ask you, Jason, as you can imagine. But maybe the best way to start is to just kind of ask you, what is it that concerns you today? Where do you spend most of your time focused on? How much of it is focused on trying to understand where the economy is? How much of it is what needs to be done on a policy side? Like, feel free to share your thoughts with me and then we can kind of begin to dig into them.

• 8:52Speaker 01

  Yeah. I mean, I often pay attention to whatever the issue of the day is, often a fascinating issue, an important one, and one that comes up a lot. And right now, the biggest issue of the day is the AI bubble. Are we in one? What's the possible consequences if we are and it bursts? Should policy be doing anything about it now? Should policy be doing anything about it later?

• 9:20Speaker 01

  I also confess, I certainly spend a lot of time on what's going on with President Trump and his policies and the like, but some of that is frankly, less satisfying and interesting. That doesn't mean it's not worth doing. It doesn't mean that I don't spend time and effort on it, but when things get very political, all of a sudden, it's sort of two warring tribes and in some cases, there's truth and justice on one side. I think on certain issues like the Fed, which we could talk about, there's truth and justice on one side of the Fed independence issue, but the AI bubble has been in some ways more fascinating to me lately.

• 9:58Demetri Kofinas?

  All right. So let's talk about that. I also want to talk about affordability because if we're talking about what's in the news and what's current, I think concerns about affordability and especially their political ramifications for the president are top of mind. I know that this has been raised as a concern among some of the president's staff. The election of Zoran Mandani in New York City, I think, points to the salience of this issue, certainly for Democrats, and perhaps there is a sense of urgency on the part of Republicans to develop some kind of platform to be able to respond in the midterms and in the next presidential cycle. But let's talk about the AI bubble. So just calling it an AI bubble focuses, I think, very much on the financial side of this, whether or

• 10:39Demetri Kofinas?

  not there's been over commitment of capital, if prices succeed kind of sustainable levels. And then there is a larger question of AI policy, which I feel like I'm actually a bit confused about what this administration, and not just this administration, because I don't really know what the position is of Democrats, or if there even is a coherent view on how AI should be regulated as a category, as a general purpose technology, what we want to accomplish with our regulations, et cetera. Let's maybe focus on that first. How do you view AI as a technology? And what do you think the role of the government should be in regulating it?

• 11:20Speaker 01

  Yeah. So first of all, any predictions about the future of AI have to have enormous confidence intervals. So I am excited and hopeful for it. It's definitely enriched my life, both professionally and using it personally to help inform me on all sorts of decisions, large and small. And I think that it's sort of amazing that I'm using the very, very worst AI I'm ever going to use for the rest of my life. It's only getting better from here. So I think it's exciting. Think economically, I'm much more worried about having too little of it than having too much of it. Certainly, there's risks

• 12:02Speaker 01

  of a lot of AI and things like the labor market, but I'd rather take those risks and figure out how best to manage them than the alternative, which is condemning ourselves to slow productivity growth. So for me, my starting premise is that this is exciting and we want more of it. Then when I think about public policy, first of all is to do cost benefit analysis, that there may be some costs of AI, but there's also benefits. And you can't just wait until you can prove everything is perfectly safe to move forward, because waiting for that is a way of condemning people to die by cancer and not get tutored

• 12:45Speaker 01

  in school and all the other things that it can do. I don't like general AI regulations so much as domain specific. For auto safety, are cars with AI safe or not, just the way we evaluate the safety of any other car? For stock trading, look at that. For medical devices, look at that. So don't have an AI super regulator, have AI as part of all the other regulatory systems. And then finally, I think it's really important to compare AI Not to the almighty, but to the alternatives. And the alternatives are humans. And humans are just incredibly, incredibly flawed in the way they make decisions.

• 13:30Speaker 01

  They show bias, they make errors, they get into car accidents and all that stuff. And so don't ask, is the system perfect? Ask, how does it compare to the others? And by the way, an important part of that comparison is even if AI is a bit worse than humans, it's something right now, it learns really quickly. And so in some ways, you want to do the dynamic analysis of not just where is AI today, but where is it going? And how does the learning process fit into that?

• 14:02Demetri Kofinas?

  So between, I would say, 10 and five years ago, between 2015 and 2020, the debate among luminaries, commentators, people that were interested in AI and conversations about narrow versus general intelligence. Those conversations, I think, leaned heavily towards the AI safety perspective, which is to say, there was a lot of, there were a lot of concerns about how these systems would operate in the wild and how we would do our best to try and manage the objective function so that we didn't, quote, "lose control of these systems." And I'm not even talking about Skynet. I'm not talking about these systems being embedded in, in defense technologies. I'm just saying in general.

• 14:46Demetri Kofinas?

  It seems that at some point in the last couple of years, really shortly after ChatGPT's launch, maybe a year afterwards or so, it seems like there was a kind of just, we flipped the switch in the public conversation. And we went from this being sort of the paradigm in which we thought about the trade-offs of regulation to just saying, well, we just need to throw as much government support behind these large companies that are leading the development of these foundation models because China, because we can't afford to regulate, otherwise we'll turn into Europe. I'm curious, from your perspective, as a policymaker or someone that's been in the

• 15:29Demetri Kofinas?

  policymaking space and has a lot of relationships with people in and out of government, what do you think is going on here in terms of our policy approach to AI? And do you have a view on whether it's efficacious or not?

• 15:44Speaker 01

  Yeah, so there were two things a few years ago. One was the safetyism that you said. And then another was a really intense concern around AI being biased, absorbing human knowledge, reproducing bias, doing it against unracial gender and other grounds. If you look at the Biden administration's policy on AI, in many respects, they were quite pro-AI. At the very end, they did sign legislation on, you know, making it easier to build in that space, to get through the permitting. But there also was an awful lot of, let's sit down and worry not just about these safety issues, but all these bias issues and the like.

• 16:29Speaker 01

  People I talked to in Silicon Valley think some of that did slow them down a bit. Not a huge amount, they were moving super fast under Biden, but slowed them down a bit. Under the Trump administration, you basically had all of that ripped up and a full-speed ahead type of attitude. I'm somewhat sympathetic to that, and I think it is one of the few things in the Trump administration on economic policy I'd probably put on the positive side of the ledger, and it's a quite important one, is increasing the, you know, just trying to get rid of whatever bobble necks, whatever is standing in the way of this technology. Now, 99% of what's happening is the private sector moving on its own, and that would

• 17:11Speaker 01

  have happened regardless of who was president and probably even regardless of what policy. But, you know, you look at the United States compared to Europe, and it's hard not to believe that policy matters here too, and that's a big part of why we have tons of leading foundational models, and Europe basically maybe has, you know, Mistrall.

• 17:34Demetri Kofinas?

  So one of the limiting factors during the internet boom in the 90s was the bandwidth of analog phone lines, which the industry addressed in part through the transition from analog to digital. Today, the consensus seems to have shifted from initially seeing the limiting factor as chip capacity, both in terms of quality and quantity of compute, to now being about the grid and the capacity to service ever increasing demands for electric power by data centers that will be used to train and run these frontier models. And even that thesis is under fire as a result of deep seeks, innovations and inference compute efficiency.

• 18:15Demetri Kofinas?

  I'm curious, what role do you think the government should play when it comes to things like the electric grid, which are part of the public infrastructure that everyone depends on, including players at the economic frontier, but also everyday consumers?

• 18:31Speaker 01

  Yeah, I'd say the biggest role for the government to play is getting out of the way. And the main way it's in the way is on some of the issues around permitting that you need to build the energy supplies, to build the chip supplies. You know, I don't know, by the way, if the scaling is going to keep working and that you just keep doubling the number of chips and you double, you know, how good the models are and you double the economic impact of those models. There's a bunch of me that is actually quite skeptical of that. And I look at ChatGPT and a lot of the improvements it's making seem to be less about the pre-training and more about refining it and fine tuning it afterwards.

• 19:15Speaker 01

  But, you know, I'm not an expert on this and I'm a believer in, you know, the government doesn't decide. I don't decide. Lots of different companies, lots of different investors make these decisions and then the market will sort out which of them work. So what the government needs to do is make sure that process can happen, doesn't need to subsidize anything, doesn't need to give grants. More than enough of this is happening. Just needs to make sure you can build the stuff for at least one path that these companies are going on, a path that so far has worked quite well and may or may not run into heavily diminishing returns.

• 19:51Demetri Kofinas?

  So I actually feel like this would be a good opportunity, Jason, to ask you a question about your philosophy on the role of the state in the economy. I have been very influenced by Bill Janeway's book, Doing Capitalism in the Innovation Economy. And he has this model that he describes as the three-player game, which includes the state, financial speculators, and the market economy, which ultimately is responsible for commercializing and broadening the gains from the investments made by the state at the earliest stages of the innovation cycle. And this model was deployed rather successfully throughout the period of the Cold War. But it seems to me that we're at a stage today where the United States, for the first time since maybe the mid to late 1970s, when the Soviet Union's growth rate

• 20:36Demetri Kofinas?

  began to lag consistently behind America's, and certainly by the 1980s, where the gap in productive investment had grown and the Soviets were spending something like 10% to 20% of their GNP on defense, that the US is facing a competitive alternative to its economic model in the form of China's state-driven capitalism with authoritative characteristics and a strong bias toward investing in achieving technological supremacy. And there is a kind of ideological war going on, certainly in certain avenues of social media, where you see a lot of videos of Chinese investment in infrastructure and all the ways in which they've dominated the electric car market.

• 21:20Demetri Kofinas?

  How do you think about what the appropriate role of the state in America and other Western democracies should be, especially in light of this strategic, geostrategic competition? And how has your view changed or not changed on this issue in the last, say, 10 years?

• 21:38Speaker 01

  So I think in the last 10 years, I've almost become a little bit more orthodox in my thinking. Maybe it's that I'm teaching a Principles of Economics class here at Harvard. Maybe it's looking at all the ways in which things can go badly wrong if you try to get too creative and too cute about things. But the way I think about it, and this is just a heuristic description of my thinking, is...

• 22:05Speaker 01

  If you follow all the conventional recipes, you get to the 85th percentile of economic performance. If you depart from them, you might turn into Singapore at the 100th percentile, or you might turn into Venezuela at the 0th percentile. And so you better be really, really sure of what you're doing and really careful. So it's sort of small c conservative about not straying too far from it. Now, what does this mean applied to technology? Well, most of technology is something that the government isn't particularly good at picking winners, losers, isn't particularly good at picking approaches. So largely, I think it's for the private sector to do.

• 22:49Speaker 01

  But there's two big conventional market failures that we teach in a class like mine. I definitely don't teach like markets solve every problem. But I teach, you know, try to identify the externality, try to identify, you know, the way in which concentration is causing a market failure, et cetera, and then try to have a remedy that brings you closer to what you would have gotten if the market could have functioned better. So in the technology space, I think there's two and possibly a third. The first is the intersection between technology and national security. The market's never going to make enough, you know, drones. It's never going to make enough missile defense systems. You just can't leave it to do that on its own. The government needs to do that.

• 23:34Speaker 01

  The clearest place that is in technology is in things like fabricating microchips here in the United States. We're just not going to do that without subsidies. I think that is a good thing to do for national security reasons. And so I'm glad we're subsidizing it. Second is there's huge spillovers in knowledge that aren't captured by any given company. That's a positive externality. And so the government has an important role in both basic research and also has a role in possibly things like tax credits for research and development.

• 24:12Speaker 01

  There's then a third issue, which I'm less sure about, which is competition. And I'm a believer in antitrust. I'm a believer that the government need to take steps to ensure that there's more competition. Here's where I've changed my mind a little bit, based on what I see as the data. To me, in the AI space, it looks like there's an enormous amount of competition. The lead company has changed multiple times. Some of them are brand new startups. Some of them are incumbents. Some of them are deep seek, using relatively little in the way of chips. Others are OpenAI, using enormous amounts in the way of it. And so I think there might be less role for antitrust in this space than I would have expected a couple of years ago.

• 24:57Demetri Kofinas?

  All right, so let's go to the question about AI bubble. So do you think we're in a bubble? And how would you define that?

• 25:04Speaker 01

  Yeah, so first of all, I define a bubble as prices that are well above their fundamental value, the net present value of expected earnings. And they're well above it because of self fulfilling belief that something will go up, and so it's worth buying because it will go up, and that drives it up, and at first makes it work. If you say it's a bubble, you are only right if you basically would have made money short selling it at the point that you said it was a bubble. So if you call it a bubble today, and the market doubles, and then the market falls by 40%, you were wrong. It was not a bubble.

• 25:46Speaker 01

  So Alan Greenspan in December 1996 wasn't prescient when he warned about irrational exuberance. He was wrong, because he was too early. People who called the housing bubble in 2002, and there were people that called it then, they weren't prescient, they were wrong. And for me, this is the big issue with calling this a bubble, is, yeah, I'm sure at some point, the market will go down. What I don't know is if it'll go up a lot before it goes down, and because of that, have a hard time calling it a bubble. On the one side, there is just, you know... Enormous amounts of productivity you need to get plus enormous amounts of monetizing that productivity.

• 26:28Speaker 01

  So there's two sort of questionable ingredients to, you know, the revenue model here. But on the other side, the revenue growth we've seen to date is actually real. It is incredibly rapid. The number of customers here are enormous and some of the upside here is really large too. So personally, I've kept my money in the market. I'm not doubling down, but I'm not, you know, halving down either.

• 26:57Demetri Kofinas?

  Do you have any sense of where you expect the majority of gains from AI to come from? So we have a very service-heavy economy. Is it fair to assume that most of the productivity gains we can expect to achieve will come from the service sector? And if so, are there any particular areas that you think are most ripe for disruption?

• 27:18Speaker 01

  Yeah, so I definitely think it's the service sector, although there's also the, you know, AI plus robotics combination that I expect to be slower than just the LLMs and the agentic AI coming out of that. Service sector historically has been an area where it's harder to get productivity growth. Our productivity growth has been driven by manufacturing. In recent years, manufacturing productivity growth has actually slowed down quite a lot. And that's why it's very welcome if we're going to be able to get more productivity growth coming out of the service sector. So where coding is the most obvious one, that seems to be what it's best at. And by the way, some of the Silicon Valley people who think it's going to replace all the jobs,

• 28:03Speaker 01

  I think they're thinking most jobs are like coding when most of them are not. But law, consulting, finance, possibly education, maybe even podcasting. All of these things are places where AI has, you know, some really enormous strengths.

• 28:23Demetri Kofinas?

  All right, so let's zoom out here. How's the US economy doing, do you think? And what metrics do you rely on to make your determination?

• 28:31Speaker 01

  Well, normally I rely on government data, which is much more reliable than private sector data and anecdotes. But we're way behind in terms of government data. We have very little of it for the month of October. We don't have GDP for the first quarter of the year.

• 28:46Demetri Kofinas?

  Because of the government shutdown?

• 28:47Speaker 01

  Yeah, because of the government shutdown, exactly. So we'll catch up and we'll get all of that. We were in a weird place where the jobs numbers were quite weak and GDP looked like it was quite strong. We don't have the official number, but based on the tracking estimates of what goes into the official number, it looks quite strong. And so it was a little bit of a puzzle as to whether it was strong or weak. I largely think jobs numbers are more reliable than GDP numbers. I think we're also shifting the composition of production towards areas of the economy that don't have a lot of jobs, like data centers. And maybe we're getting some productivity growth, but that's the one I'm least confident of.

• 29:28Speaker 01

  So overall, I think I'd bet on a little bit more weakness than strength. But even that weakness itself is something that economists would call structural, due largely to things like reduced immigration, rather than cyclical, which is important because I don't think there's a lot the Fed can do to help this economy.

• 29:51Demetri Kofinas?

  So actually, I really want to have a conversation about what the Fed can and can't do because I actually tend to agree that a lot of our models about what monetary policy can achieve don't seem to square with reality. They didn't square with reality post 2008. And I wonder whether the reverse scenario, which is to say the Fed being able to keep a lid on inflation is a good thing to bet on. Let's talk a little bit about the jobs market because in your Times op-ed from early September, you argued that the slowdown in jobs growth should lead the Fed to limit itself to one 25 basis point rate cut at its September meeting, but that the FOMC should be under no illusions that it can or should do much more than that. We've actually gotten two rate cuts since then,

• 30:34Demetri Kofinas?

  and there's a third one that's now on the table for the next meeting. How has that picture changed since the start of the year and since you wrote your op-ed?

• 30:44Speaker 01

  Yeah, I think the Fed is making a different judgment than I would have made. And in that op ed, by the way, I was saying what ought to be done, not what I was going to predict would be done. So I think it probably this is roughly what I would have predicted the Fed would have done. But, you know, I look at the inflation rate, it's 2.8 percent. That's eight tenths above what the Fed wants. The unemployment rate is in the low fours, roughly where the Fed wants it to be. The financial conditions are very loose, especially because of the strong stock market. And there's more fiscal support coming for the economy from deficit reduction from the one big beautiful bill act. So I don't know why the Fed thinks

• 31:27Speaker 01

  that the economy is not already getting sufficient support and why it isn't more focused on inflation as a problem rather than unemployment. That's the way I would be thinking about it if I was there right now.

• 31:40Demetri Kofinas?

  So how inflationary are rate cuts?

• 31:43Speaker 01

  It's a good question. And, you know, it's been studied. You can put it into, you know, a theoretical model. You can put it into an empirical estimate by looking at what's happened before. Part of the tricky thing is I think there may be nonlinearities there. So at first, small increases in the unemployment rate can give you large decreases in inflation. But eventually, it might take larger increases in unemployment to bring inflation down. I certainly wouldn't knowingly cause a big recession just to get the inflation rate from 2.8 percent to 2.0 percent. I think it's fine for the Fed to be a little bit opportunistic about how they're disinflating the economy. Look for, you know, times and moments when

• 32:28Speaker 01

  it makes sense to do it. But yeah, I think there's certainly, you know, it's certainly the case that there's some disinflation from it. The other piece I'd put here is why did the Nasdaq bubble burst in 2000? It burst because the Fed raised rates by, I think, 150 basis points, something like that. Raised rates a bunch in order to get control of inflation. Well, I'd rather the Fed not be in a position where it's surprising everyone with rate increases. And the best way to not surprise people with abrupt rate increases is to not cut rates. While I, my best guess is we're not in a bubble, I don't think I would want to be the

• 33:11Speaker 01

  person, you know, putting fuel into that possible bubble. Better to keep rates lower now and then, you know, you're not going to need to backtrack next year.

• 33:22Demetri Kofinas?

  So former Bank of England governor, Mervyn King, recently said that, quote, "Central banks no longer have a theory of inflation." Do you think that Fed officials even have a good working understanding of the causes of inflation and what they would need to do in order to keep it under control? This is kind of the question I asked earlier, but it's a more pointed version of it.

• 33:41Speaker 01

  Yeah, I, it's funny, he said that and I invited him to give a seminar here and he made exactly that statement and talked about some of the leading economists on inflation and said they didn't have a theory of it. And I didn't think that was totally fair. The problem is we have theories of inflation and you need to know which theory to use at which point in time. If you're a country that's printing 10 times more money each year, we have a very good theory of inflation. It's called the quantity theory of money and it says prices are going to go up 10 times each year. If you adjust interest rates, we have another theory that you use in that circumstance. It's something like the ISLM model that basically Keynes came up with the core ideas

• 34:25Speaker 01

  for, or the new Keynesian version of that model. And that works in sort of normal times. In 2020 and 2021, people were using that new Keynesian model when really they should have been using something more like the quantity theory of money model. There was just a huge expansion in nominal GDP. It couldn't show up in output, it had to show up in prices. So I think we have different inflation theories and the trick is to know, you know, which theory to use when.

• 34:57Demetri Kofinas?

  So was the key insight post 2008, when the Fed ultimately quintupled its balance sheet, that the reserves created by the Fed and were effectively inert in the banking system and therefore the quantity theory of money remained intellectually consistent?

• 35:16Speaker 01

  Yeah, the quantity theory of money is about the money supply. And it's not about what's called the monetary base. So if banks have money that stays in their vault, or that stays in the electronic equivalent of their vault, which is reserve deposits with the Fed, that actually is in what's called the monetary base. It's not in the money supply. And when Milton Friedman was writing, he was writing about the money supply. And so in some sense, these two episodes with enormous expansions in the Fed's balance sheet and no inflation last time, and a lot of inflation this time are consistent. Now, what that points out to you, though, is that you can't just look at the amount of money the Fed makes and turn that into the money supply.

• 36:01Speaker 01

  Why did the money supply expand in 2020 and 2021? Well, in part because of fiscal policy. The Fed gave people money. That meant people had money in their checking accounts. When you have money in your checking account, that does count as part of the money supply that does fuel inflation. So the quantity theory is definitely not useful in every place and time. And it has a big limit in terms of, you need something that explains why sometimes the Fed makes money, sometimes the Fed doesn't make money. But I do think we have all the intellectual tools that we need. And regardless, if you think we don't, it's incumbent on you not just to complain about the lack of tools,

• 36:44Speaker 01

  but to come up with a better one.

• 36:47Demetri Kofinas?

  So I'm going to follow that up with a question. But before I do, just one more about the Fed's target. So you mentioned that inflation is currently at 2.8%. The Fed is cutting interest rates, even though they're above target. Does that mean that the Fed has implicitly changed its inflation target from 2% to something higher?

• 37:09Speaker 01

  I wonder if they have or haven't. You could rationalize what they're doing by they think that they're above the neutral rate, so monetary policy is already tight and they're just making it less tight. So their foot is on the brake, it just isn't pushing down as hard on the brake. So you could still believe that they believe and are trying for 2.0. But I think it's possible that they've shifted the inflation target away from 2.0 and to 2.0x.

• 37:39Demetri Kofinas?

  What do you think the logic of them running to run inflation a bit hot is?

• 37:42Speaker 01

  There's two arguments. One is higher inflation gives you somewhat more space to manage the economy because you can cut nominal rates more in the event that you run into trouble. And that's an argument that I have a lot of sympathy for. Another is this opportunistic disinflation. They're still trying to get to 2.0, but they're not going to ruin the employment side of the mandate in order to get exactly where they want to get on the price side of the mandate. They're a dual mandate Fed and eventually they'd like us to be at 2.0, but they're happy to sort of let us luckily bounce our way along there rather than actively try to make sure it happens.

• 38:25Demetri Kofinas?

  So what is the current, do you know what the budget deficit is? What the latest figures say that the deficit is currently?

• 38:32Speaker 01

  It was about 1.8 trillion last year, a little bit over 6%.

• 38:36Demetri Kofinas?

  As a percentage of GDP, what is like 6 to 8?

• 38:37Speaker 01

  A little bit over 6% of GDP.

• 38:38Demetri Kofinas?

  That seems extraordinarily high for an economy that's not in recession.

• 38:42Speaker 01

  It is extraordinarily high for an economy that's not in recession, absolutely. And no major emergencies either. It's not some big pandemic, war, anything like that.

• 38:51Demetri Kofinas?

  Could there be an implicit understanding on the part of policymakers that the only way to address that is through inflation?

• 38:58Speaker 01

  There could be, but I don't think there is. The Fed is not going to bail out. The fiscal system, at least in its current configuration, it's possible it will have a different configuration in the future.

• 39:10Demetri Kofinas?

  You mean the leadership, you mean Jay Powell wouldn't be willing to?

• 39:13Speaker 01

  Yeah, Jay Powell would not be willing to, but there's 12 different voters on that committee. And so we're going to get a new chair, but most of the voters are going to stay the same. They would not be willing to either. So I don't think fiscal dominance is, at least in the short run, a big issue.

• 39:30Demetri Kofinas?

  So I do want to ask you about potential next Fed chairs. Let's imagine a scenario. First of all, are there realistic scenarios you can imagine that whereby over the next five years, inflation significantly moves above target, so much so that it would require a policy response to try and get it down?

• 39:50Speaker 01

  Oh, yeah. Look, if you think we're at 2.8 right now, there's a 50% chance we end up at like 3.3 and a 50% chance we end up at 2.3.

• 39:59Demetri Kofinas?

  Let me reapply then. Okay, so the reason I asked you about working theories of inflation was to get to this next question, which is, since you do feel that while there isn't a general purpose theory, there are theories and we just have to apply the right one. How would policymakers get inflation down if it were getting out of control? What do you think would be the tools that would do it and that you would feel confident would work? And also that would be politically feasible?

• 40:27Speaker 01

  Well, I mean, the nice thing at the Fed is that they're independent. And so...

• 40:33Demetri Kofinas?

  How independent really, though? I mean, you worked in government and you worked in government during the period where the Fed had the most independence it's ever had in our lifetime. But historically, the Fed goes through cycles of being more or less politically amenable to political pressure. And of course, it is a creature of government. It was created by the Congress. So really, how much can we bank on this notion of political independence?

• 40:59Speaker 01

  I mean, look, the Fed under President Biden was raising rates by 75 basis points per meeting for multiple meetings in a row. I can't imagine the people sitting in the White House were totally thrilled by that. Then you go to the election year and everyone kept thinking they were going to cut rates and they didn't and they didn't and they didn't. They finally did in September, but that was, you know, very late for the political perspective of the Democrats. So this is not a Fed that looks particularly partisan for the administration that is in office. Remember President Clinton used to sort of, I don't know, complain a little bit, sort of have his thumb on, you know, be rooting for lower rates. He never expressed

• 41:43Speaker 01

  it. He never asked us to do anything about it. He got that if he were in charge of monetary policy, probably things would turn out worse than if Alan Greenspan was in charge of monetary policy. But I think that independence really was quite real. And then you look at President Trump. He's done everything he can to get the Fed to bow to his will and the Fed has ignored him.

• 42:03Demetri Kofinas?

  Does it matter what's causing inflation? So we had supply chain disruptions during COVID. Some of that inflation was caused by those disruptions. If we experience something similar again, do you think policymakers have a responsibility to do whatever they can to get inflation down, even if it's caused by structural issues that are driving prices up?

• 42:22Speaker 01

  So.

• 42:23Demetri Kofinas?

  In other words, the way that we're taught about inflation, just for people that are listening also, you know, the way we're taught about inflation in school is that, or the role of monetary policy in curbing inflation is that it's driven by the economy overheating. And so that's sort of what I'm trying to get at, which is that there are forces that can drive inflation and also forces that can drive debasement, which can effectively cause inflation, that are independent of whether or not the economy is growing too quickly and the price of money needs to increase in order to kind of take some of the pressure off.

• 42:59Speaker 01

  Yeah. So that's not, you know, unknown to economics. Economics has a concept of supply shocks. It's been a part of the toolkit, at least since the 1970s. There's still some debate about a supply shock. For the most part, you want to look through a supply shock and not worry about that inflation, let it work its way through the system. But there is an exception, which is if it gets built into inflation expectation. You need to keep those in check and make sure you're being credible. Those two right now go in different directions. I would say the tariff inflation is transitory. The Fed can mostly afford to ignore it, but has to worry just a tiny bit about will it

• 43:41Speaker 01

  end up taking root and become self fulfilling in terms of psychology. The other thing with supply inflation is if the government can do something about it, it should. Now, you often can't. It's often some geopolitical event you can't stop. The biggest supply inflation right now, supply shock inflation, is coming from the tariffs. And that is something the government could do something about. It could just drop those tariffs and that would make this all a whole lot easier for everyone.

• 44:09Demetri Kofinas?

  So one last question before I move to the second hour, Jason. What do you think the Fed would need to do? Let's say inflation was running at 4% three years from now or whatever. What do you think the Fed and the fiscal authorities would need to do and/or the fiscal authorities would need to do in order to get inflation down and that they would do?

• 44:29Speaker 01

  I mean, if we're still 3% a few years from now, they're going to have to decide.

• 44:32Demetri Kofinas?

  4%.

• 44:32Speaker 01

  4%, sorry, 4%.

• 44:34Demetri Kofinas?

  4%.

• 44:35Speaker 01

  You need to keep raising interest rates and you might need much higher unemployment in order to solve that problem, unfortunately.

• 44:43Demetri Kofinas?

  All right, so let's move us to the second hour, Jason. I want to talk about tariffs and immigration. I want to talk about price controls because this is becoming a popular topic that you've weighed in on. And I also want to discuss this issue of affordability and I want you to put on your political hat for me and give me your opinion about sort of give me also the view from Washington and from the perspective of each party and how this issue is going to maybe need to be navigated politically going forward. Because I think it's something that, especially younger people, I mean, certainly millennials, but people below the age of 35, I think, have been especially vocal about the challenges they face with housing, the cost either of.

• 45:28Demetri Kofinas?

  Education or the lagging costs of having taken on debt to pay for it and the burden of all those interest payments, also the cost of healthcare is a problem for everyone. So that's something I want to talk about as well. For anyone new to the program, Hidden Forces is listener supported. We don't accept advertisers or commercial sponsors. The entire show is funded from top to bottom by listeners like you. If you want access to the second hour of today's conversation with Jason, head over to hiddenforces.io/subscribe and sign up to one of our three content tiers. All subscribers gain access to our premium feed, which you can use to listen to the rest of today's conversation on your mobile device using your favorite podcast app, just like you're listening to this episode right now.

• 46:13Demetri Kofinas?

  Jason, stick around, we're going to move the rest of our conversation on to the premium feed. If you want to listen in on the rest of today's conversation, head over to hiddenforces.io/subscribe and join our premium feed. If you want to join in on the conversation and become a member of the Hidden Forces Genius Community, you can also do that through our subscriber page. Today's episode was produced by me and edited by Stylianos Nicolaou. For more episodes, you can check out our website at hiddenforces.io. You can follow me on Twitter @Kofinas and you can email me at [email protected]. As always, thanks for listening. We'll see you next time.