Paul Volcker: the man who fought inflation and won

All the obituaries and reminiscences of the former US Federal Reserve Chairman, Paul Volcker — who died on December 8, aged 92 — say the same things (in much the same order): he was very tall, he was very humble, he had integrity and he slew the inflationary dragon.

That is broadly true. He was 6’7” — one inch too tall for the draft, so he went to Princeton, not the Army, where (no surprise) he wrote his senior thesis on the Federal Reserve’s mandate to control inflation. Thence to Harvard’s Littauer School and thence to LSE, where he signally failed to finish his PhD dissertation, a matter of some shame in the US, where you are really not supposed to call yourself an economist without a doctorate.

But that doesn’t matter when your very presence dominates a room. As Oscar Wilde was said to have replied when asked why he was not sitting at the head of the table: “Where I sit is the head of the table”. So with Volcker. He wasn’t graceful, like say Kobe Bryant. He was slightly lumpy, slightly dishevelled. But he was obviously comfortable in his own skin and that gave him a real charisma.

Humility? That’s a bit trickier. Yes, he favoured cheap cigars and even cheaper-looking suits, at least while he was at the Fed. And yes, he lived very modestly while he was in Washington, walking to the office from a tiny Foggy Bottom apartment and taking his laundry to his daughter in Virginia.

But when he was “promoted” from the NY Fed to chair of the main Fed Board in August 1979, he took a 50 per cent salary cut — and he was still supporting a severely disabled wife (and slightly disabled son) in NYC. I am not sure how humble that is, given that he clearly relished the spotlight. True, his style was collegial, but he was very sure that he was right — and his presence was such that he tended to get his own way, even when the facts were against him.

That said, he certainly had integrity. His father had been city manager of Teaneck, NJ, fighting corruption and incompetence in one of the more corrupt and incompetent jurisdictions in a corrupt and incompetent state. The lesson stuck; Volcker was nothing if not stubborn. And money obviously wasn’t a major issue. He told me, for instance (we all have a Volcker anecdote), that, when he was in Washington, his secretary, Anke, was actually making more money than he was since she was on a super-scale and he was limited to the then-Federal maximum of $89,000. However these were the days before #MeToo, and it was no surprise that, when his wife Barbara died in 1998, he and Anke got married; he was discreet — and so was the press.

Plus, despite his man-of-the-people persona, he had some rather expensive tastes — salmon fishing, in particular. Even bunking by the side of a stream in Alaska or Iceland costs a bundle, and Volcker was not averse to accepting a modest degree of hospitality. And, of course, there is his post-Fed career. After all, he was only 59 when he left the Fed and he had plenty of time to make some serious money. Which he did, chairing Jim Wolfensohn’s eponymous investment bank for ten years and cashing out when it was sold to Bankers Trust. (It was reported that his payout when the firm was sold exceeded his entire salary for his career to that date.)

Certainly, Jim got something out of the deal: Volcker’s presence gave him the credibility and respectability that he needed to fulfill his own long-held ambition to head the World Bank, something that a generation of World Bank staffers might well hold against Volcker. (To be completely fair, Volcker did take on some genuinely important pro bono roles after retirement. In particular, he chaired the Holocaust reparations committee, the Group of 30 and, more recently Obama’s  Economic Recovery Advisory Board, which led to his support for what came to be known as the Volcker Rule.)

But, in the end, Volcker must be judged first and foremost by the attack on inflation that he launched on October 6, 1979, having been appointed by a brave (or foolhardy) President Carter to succeed the politically  compromised Arthur Burns as Chairman of the Fed Board.

This is much trickier, not least because, as one of the key decision-makers when President Nixon closed the “gold window” in 1971, he could be held partially responsible for the surge in inflation that followed. Very few of his obituarists (with the exception of Martin Wolf) have really tried to tackle this, preferring instead the easy anecdotes. However, what Volcker did — and why — was pretty clear. For him, the Fed’s anti-inflation mandate was paramount and (perhaps because of his family history as German immigrants) breaking the cycle of inflation was an almost moral imperative.

Today, it is hard to imagine just how damaging double-digit inflation could be, economically, socially and politically, especially when combined with the expectation that it would continue, indeed accelerate. Higher unemployment seemed a relatively small price to pay. The result was that, on that fateful day (egged on, it is said, by Helmut Schmidt, but fiercely opposed by Burns), he announced a major shift in Fed policy. Henceforth, he said, the Fed would no longer try to tackle inflation by targeting  the funds rate; instead, it would focus on the monetary aggregates — and let interest rates go where they would.

They did: the prime rate hit 21.5 per cent, unemployment hit 11 per cent, whole industries were hit hard, and the dollar fell sharply — but, for a long time, inflation remained stubbornly high, not breaking until mid-1982, by which time poor old Carter had been dumped by Ronald Reagan and his promise of “morning in America”.

Still, by 1986, inflation was running at just two per cent, even though the monetarist experiment of ignoring interest rates in favour of the quantity of money had (once again) been abandoned.

Was it worth it? Well, if you kept your job and worked for the ever-expanding public sector, the answer is probably “Yes”. But a lot of people thought otherwise and a lot of jobs were lost for ever. A recent encomium in the Atlantic claimed that Volcker “almost single-handedly pulled the nation back from a near-Weimar scale financial collapse,” which seems a tad over the top.

A letter in the FT from Professor Robert Wade pointed out that, to the contrary, Volcker’s actions were one of the major factors precipitating the Latin American debt crisis of the 1980s and that, like US policymakers today, he really didn’t give a damn about the impact of his policies on the rest of the world. Plus, it is possible to argue that what really drove inflation down, and kept it down, was not Volcker’s sado-monetarism, but the wave of globalisation triggered by technology and by the expansion of WTO rules to countries like China.

It is a counter-factual, and one cannot prove it, but maybe the surge of inflation in the 70s and early 80s was a phase that would have burned itself out, not a step-change in the rules of the economic game.

Who knows? Better economists than me need to reassess Volcker’s legacy at the Fed and not be blinded by the fact that he was, to his core, one of nature’s good guys. He was also, equally to his core, one of nature’s bureaucrats.