Enjoy the soft landing

[BERKELEY] The Covid-19 pandemic created both a short- and a medium-term challenge for American economic policy. The immediate challenge was to maintain consumers’ incomes in the face of sweeping lockdowns, supply-chain disruptions, and shifts in aggregate supply. This meant striking a balance between avoiding a depression and not goosing the economy with so much liquidity as to turbocharge inflation.

The medium-term challenge concerned a broader crisis-induced structural shift away from the purchase of services – especially in-person services – toward the purchase of durable goods. At the height of the pandemic, we crammed a couple of decades’ worth of societal learning about leveraging e-commerce and the Internet into just two years. One takeaway was that doing more of our consuming at home was more comfortable and simply made more sense. Today, durable-goods spending in real terms is 38 per cent above where it was at the end of March 2018, while services spending is only 15 per cent higher, a 23-percentage-point gap in relative growth.

The medium-term challenge, then, was to create the market incentives to induce workers and firms to respond to this great structural shift in demand. Since neither nominal wages nor prices were going to fall back to their previous levels (they are “sticky”, in the economic parlance), substantially cutting wages and prices in shrinking service-sector industries was a non-starter. Instead, creating more supply in the areas where there was growing demand required wage and price inflation in the newly expanding sectors.