‘A great deal of damage has been done’: Economist James Galbraith says the Fed should cut rates

Galbraith recently sat down for an interview with MarketWatch at the American Economics Association’s annual meeting in San Antonio, where he shared his views about the U.S. economy and Federal Reserve policy, and the challenges investors now face from both. This interview has been edited for clarity.

MarketWatch: What stories is the business press getting wrong, in your opinion?

Galbraith: There is a wave of reporting to the effect that the Fed deserves credit [for the drop in inflation]. But the fact is that the peak in rising prices occurred in June 2022, and that was only three months after the Fed started raising interest rates.

So there’s absolutely no reason to attribute the peaking and subsequent decline in the rate of change of prices to anything the Fed did. It’s inappropriate to give them credit for something they did not engineer and did not expect to happen, either. 

MarketWatch: Do you think the Fed should cut rates?

Galbraith: Yes. I think, first of all, a great deal of damage has been done.

One [thing] is, of course, in the housing market. What was a 2% mortgage rate a few years ago is now a 7% mortgage rate. And good luck trying to sell a house. It complicates transactions until the price of existing housing falls. People’s wealth possessions are going to be very destabilized. Some people will gain, some people will lose, but it’s not a good idea to basically disorient people’s balance sheets in this way.

Problem No. 2 is in relation to the policy objectives of the Biden administration, which include a lot of long-term investment by private firms heavily subsidized by tax credits, particularly in energy transition. 

If you talk to the businesses, they will tell you those plans were made on the basis of fairly thin margins, including affordable interest costs. The rise in interest rates has thrown all of those calculations into a cocked hat, with the result that things that were started, or were on the drawing boards — offshore wind farms and things of that nature — have been canceled. 

MarketWatch: You’ve spoken about the rise of pseudo-technology and competing narratives in the media. Where are you seeing this in the financial markets? 

Galbraith: It strikes me that this is a pervasive phenomenon in our society that goes far beyond economics. The valuation of firms, in some cases really inconsequential firms in terms of their physical footprint, is absolutely out of proportion to what they actually do. The valuation of “pie in the sky,” whatever [artificial intelligence] may or may not yield, is being driven by a narrative that you can’t evaluate. It has no foundation that you can actually check. It’s not like a hydraulic dam.

MarketWatch: There’s a growing concern among mainstream economists about the ballooning national debt. Do you share that worry?

Galbraith: This all reminds me of the old man from vaudeville who runs out on stage and says, “Don’t clap too loud. It’s an old theater.”

The Congressional Budget Office has been producing these exploding debt projections for decades. And they are completely inconsistent as a matter of economics.

They are based upon the idea that we’re going to have a sustained high-interest-rate environment, an explosion of Social Security and Medicare spending, and we’re not going to have any problem with inflation or unemployment. That’s the CBO baseline. Is this really a consistent story? The answer is, it is not. The effect is to scare people unnecessarily.

We have plenty of things to worry about. I mean, we have a vast amount of inequality, of insecurity, of decay in our cities, physical infrastructure, all kinds of problems — of course energy, environment, I can go down that list — not to mention the political situation in the wider world. The federal debt? We should obsess on this? It does not make sense to me. 

MarketWatch: You’ve expressed concern about what you call witch-doctor economic policies. What are you referring to?

Galbraith: If I could get one point across, modern medicine involves specific diagnoses linked to specific actions. But modern economics — economists are not on the same page in terms of what’s causing the inflation problem. Some of them say money, some of them say debt, some of them say expectations and some of them say low unemployment — the Phillips curve. They all quibble about that, but then they come back and say what should we do about it. We have one tool: raising the short-term interest rate. This is exactly parallel to the medieval doctor who didn’t know what the cause of the malady was, but the cure was always the same: cut the patient and let out the blood.

It’s about time that economics got over the 18th century and entered at least the late 19th century and began to learn that there are specific causes and specific treatments to get specific outcomes.

MarketWatch: How would you assess the performance of the Biden administration?

Galbraith: In economic terms, it is mixed. Amongst economists there is an idea that you just add the unemployment rate to the current inflation rate and, if the sum is a low number, people should be happy.

But this isn’t the way people see it. People have experience over a period of a few years and they can see that their cost of living has gone up more than their income. That is what large numbers of people are experiencing. And that means they are under pressure to meet their rent, utility and tuition bills. And this makes them unhappy. They are going to give the administration low marks under those circumstances.

On big climate-change projects — if an asteroid was coming toward the Earth, we would consider this to be an existential emergency. And it would not make sense to say, “We want to have an anti-asteroid policy, but we don’t want to involve the Chinese.” If climate change is an asteroid, it does not make sense to have a policy which says we’re going to deal with it with basically a national investment program that excludes cooperation with other countries, particularly those that are in a strong position to help address the issue. 

MarketWatch: What do you think are the top priorities for reforming the U.S. economy?

Galbraith: If you ask what my priorities would be with the structure of the American economy, I have two. One is to definancialize — reduce the scale of the financial sector. It’s not just Wall Street but the whole financial sector. We used to have a much smaller one, more focused, better control. It simply takes too large a share of resources, concentrates power in too small a group of people who are not accountable in any way to the public. 

And my second one is demilitarization. I believe that we have committed ourselves to a dysfunctional structure of power protection in the world, based upon technologies that are obsolete. Fixed bases are simply targets, and so are big floating aircraft carriers. We’re not going to succeed in a world in which we are wedded to obsolete technologies. My view is that, ultimately, we have to deal with the fact that the world is multipolar and that our influence cannot be projected militarily.

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