Economists question validity of Manchin’s inflation fears on Build Back Better

CNN

By Tara Subramaniam

Democratic Sen. Joe Manchin of West Virginia effectively put an end to negotiations over the current version of the Build Back Better Act on Sunday when he announced on Fox News he would vote no on the legislation, in part over concerns some provisions of the massive tax and spending bill might exacerbate inflation.

A day later, on Monday, Manchin expounded on his rationale in a radio interview with West Virginia MetroNews, saying he had been clear early on in the negotiations that he was concerned about inflation. After acknowledging that he was also concerned about the coronavirus and geopolitical unrest, Manchin went on to say that “Inflation is the biggest threat I think we have right now.”

Setting aside the question of whether inflation is the biggest threat to the US right now, given the current spike in Covid-19 cases is the country’s largest since the pandemic began, many economists believe the Build Back Better Act’s effect on inflation would be marginal. That said, it’s worth examining how the $1.75 trillion in new spending included in the bill would likely impact prices across the US economy.

Economic backdrop

First, it’s important to put Manchin’s inflation fears in the proper context.

For most of the past decade, inflation in the US was historically low — this despite years of low interest rates following the Great Recession. But the coronavirus changed all that, and as the global economy has recovered from the pandemic-induced downturn, prices have spiked, rising at the fastest rate in the US in almost four decades.

The demand for goods has outstripped the global economy’s ability to produce them as factories and supply chains contend with worker shortages and other constraints caused by Covid-19 restrictions.

While there’s some debate as to how long prices will keep rising at the current pace, the latest data suggests that inflation shows no sign of slowing down before the year’s end. The Bureau of Economic Analysis announced Thursday that the PCE Price Index, a key measure of inflation, rose 5.7% in the 12 months ending in November, its fastest increase since 1982.

Although the US isn’t the only place where prices are soaring, it does appear the rate of increase is higher here than elsewhere. In October, the Eurozone’s annual inflation rate hit a 13-year high. Still, at 4.1% that’s well below the 6.2% annual increase in the US Consumer Price Index for the year ending in October 2021. The CPI serves as a broad measure of inflation in America.

Political context

Manchin’s inflation fears over BBB fit into a larger political debate that has been going on for months in Washington. The specter of inflation has hung over the Biden administration for much of its first year in office, dragging down the President’s poll numbers and fueling criticism of his sweeping legislative agenda.

With prices rising so fast, critics have claimed that it’s dangerous to throw trillions of dollars in fiscal stimulus — if you add up the already-passed $1.9 trillion American Rescue Plan and the $1.2 trillion infrastructure bill to the $1.75 trillion Build Back Better Plan — onto an economy where prices are already soaring.

Aside from scores of Republicans, among the more vocal critics of Biden’s earlier spending agenda was former Obama Treasury Secretary Larry Summers. Earlier this year, Summers warned that the kind of spending included in Biden’s American Rescue Plan threatened to overheat the economy.

But when it comes to Build Back Better, Summers isn’t so worried. In fact, as CNN’s John Harwood reported earlier this month, Summers says Congress should pass Biden’s $1.9 trillion Build Back Better Plan over GOP opposition because it would boost long-term growth without significantly increasing inflation.

Which raises the question — How real are Manchin’s concerns about BBB and inflation?

Experts weigh in

According to Mark Zandi, chief economist of Moody’s Analytics, “One shouldn’t vote for or against this legislation based on the impact on inflation.”

Benjamin Page, a senior fellow at the Urban-Brookings Tax Policy Center, puts the possible inflation effect of the bill in the near term at about a few tenths of a percent, which would be a small bump compared with the 6.8% jump in prices last month.

Justin Wolfers, a professor of public policy and economics at the University of Michigan, told CNN that “most of the inflation threat is Covid related in the present,” adding that “roughly speaking Build Back Better is not inflationary.”

“Manchin either fails to understand the inflation concerns or fails to understand the structure of the bill,” Wolfers said. “The inflation surge is today, it’s expected to be gone soon. Build Back Better if it does anything to the economy will be, most of it, several years hence.”

Wolfers added that, “If you wanted to spend $2 trillion in 2021 that would be inflationary, but that is not at all what the bill does.”

The Build Back Better Act calls for around $1.75 trillion in new spending which the Congressional Budget Office estimates will be mostly paid for over 10 years. The bill includes $585 billion for family benefits, $570 billion for climate and infrastructure initiatives, $340 billion for healthcare and $215 billion in individual tax credits and cuts.

The Committee for a Responsible Federal Budget, a nonpartisan group focused on policy analysis and fiscal responsibility, conducted its own estimates of how much the bill would cost over time.

Marc Goldwein, Senior Vice President and Senior Policy Director for the CRFB, told CNN, “We think that in the first couple of years there’s about $250 billion of spending, by the third year over $300 billion, peaks in 2025 at almost $400 billion of spending and tax cuts, and ramps down to about $150 (billion) a year by the end.”

In the short term, the spending will not be immediately offset because two big tax relief programs — the expanded child tax credit and the earned income tax credit — would be implemented immediately and would last another year, while some of the tax increases would not go into effect until later.

According to Goldwein, two of the main drivers of inflationary effects of the bill in 2022 are the retroactive SALT cap increase and the monthly Child Tax Credit payments.

“Barely anything else is going to be spent in the first year,” Goldwein said. “In that first 9 months not much else has had a chance to ramp up in a significant way but those have because people will get 9 monthly checks and one fat check at rebate time.”

As a result, some economists say there may be a modest increase to inflation in the short term. However, Zandi believes that over the long run, the bill will have a marginal impact on inflation overall.

“Maybe on the margin it adds a bit to inflation next year, the year after,” Zandi told CNN. “Maybe on the margin it reduces inflation in the longer run, but taking a step back it does not have a meaningful impact on inflation.”

It’s also worth noting that if legislation is inflationary and prices start rising too quickly, there are mechanisms in place designed to counter that, primarily interest rate hikes by the Federal Reserve.

“Even if you thought that Build Back Better was inflationary, the Fed’s going to lean against that,” Wolfers said. “To the extent that the Fed has the tools, it can undo whatever Congress does in terms of its implications for inflation.”

The Federal Reserve’s latest economic projections suggest multiple interest rate increases are in the cards for 2022. During a press conference Wednesday, Federal Reserve Chairman Jerome Powell said any rate increases will likely be gradual and that potential economic fallout from the spread of the Omicron variant hasn’t yet changed the Fed’s view.

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CNN’s Katie Lobosco contributed reporting.