Hard to Achieve a Soft Landing

We’re fielding a lot of questions lately asking for a description of how the current cycle might end. Do we hold out hope for a soft landing, with no significant economic damage, or a soft-ish landing, with limited pain? Could we see no landing at all, with activity never slowing and unemployment never rising? These visions feel optimistic after digesting a paper presented at last week’s Chicago Booth Monetary Policy Conference, showing ample precedents for a recessionary hard landing.

The authors, including a former Fed governor, surveyed 16 disinflationary cycles since World War II across the U.S., Canada, the U.K. and Germany. They computed a sacrifice ratio for each interval: the economic cost associated with a one percentage point decline of trend inflation. Every episode showed a consistent story of sacrifice accompanying lower inflation.

Whenever a central bank acted decisively to arrest inflation, a recession ensued. Rare soft landings, like in the mid-1990s, did not fit the authors’ criteria: central banks acted preemptively to prevent inflation in that instance, as opposed to reacting to high inflation.

When central banks fight inflation, economies can expect to suffer.