John Cochrane on the Helicopter Drop, 3/7

The WSJ’s Tunku Varadarajan interviews John Cochrane.

The Covid checks, Mr. Cochrane says, were “an immense fiscal helicopter drop. People are spending the money, driving prices up.”

Last May, when inflation was “transitory,” I wrote The Helicopter Drop.

Cochrane and I agree on many things:

• the government could not solve the economic problems caused by COVID by writing checks

• the Trump Administration’s fiscal incontinence set the stage for the inflation that erupted this year

• The Biden Administration added bad supply-side policies to continued fiscal incontinence

• With Congress unwilling to rein in budget deficits, the Fed is not in a position to do much about inflation

We disagree a bit on the mechanism by which large deficits cause inflation. I think that people perceive government bonds as if they were wealth. The government borrows $1 from me and spends it on you. You have a new dollar. And I think I still have a dollar, because the government owes me a dollar. Neither of us thinks that we will have our taxes raised next year, when the government has to pay me the dollar.

John says that most of the time, you and I look ahead and do see taxes going up. So we save up to pay for those future taxes. It is only when we think that the government is not going to raise taxes, and will resort instead to printing money, that we decide not to save and instead to spend in order to get ahead of the money-printing.

John assumes that people are looking forward and trying to anticipate government spending and tax policy. I assume that people are myopic and just look around and say “I got paid $x by the government” or “I lent $y to the government and got a $y bond in return” without thinking about what comes next.

For both of us, the root of inflation is large government deficits. If we are right, then this “transitory” inflation will get worse until Congress has the will to significantly reduce spending and/or raise taxes.