WSJ: “NAIRU” Jacket

Growth, inflation, rate increases. We are at the point when the economy is the most confusing. An industrial mindset has us all in a 70’s-era brain freeze. Time to thaw out and modernize U.S. economic thinking.

At badfads.com, you can read about Nehru jackets, a passing fashion that inflicted Sammy Davis Jr., Laugh-In’s Arte Johnson and thousands of grade schoolers, who I think all grew up to be economists.

How do I know this? Because another bad fad, called NAIRU, is about to haunt us again. From that same era, the Non-Accelerating-Inflation Rate of Unemployment says that too many people working will start demanding higher wages so inflation sets in. Better raise rates to slow things down. But aren’t higher wages and growth good things? I suppose, it depends how you get there.

The cousin of NAIRU is the output gap, the difference between actual output and an economy running at “full” capacity, whatever that means. Get close to full, and you better start worrying about that “I” word. Alan Greenspan and the Fed have screamed from the mountaintops that rates are heading up to head off inflation, at a measured (translation: quarter point) rate. “Full” means rising prices and rising wages in that ‘70’s wage-price spiral no one wants to go back to. “Honey, I need to buy a 50 inch flat screen TV before prices go up!”

But who cares what economists think - what is “full” today? Back in the days of textile mills and chemical plants and auto production, “full” was pretty easy to figure out. GM sold all they could make, ran three shifts and got stuck giving raises. “Full” meant not enough ethelyne plants and rising prices for plastic. But here’s the rub - we are no longer an industrial economy. Full is actually still empty. The output gap is always wide. NAIRU is a straight jacket.

How much does it cost for another copy of Windows. Zilch. Stressed about prices? Take another Xanax, it costs almost nothing to make. Same for Lipitor. Their high costs go to fund FDA trials, not factories. How much does it cost to enable another Google search? Music download? Email? Phone call? Nanocents. The output gap of intellectual property is almost infinite. Full (and high wage) employment in research jobs is what we want and destroys the notion of NAIRU.

Even services have plenty of capacity. Fedex and UPS handle the Christmas rush, and have bloated excess the rest of the year. Walmart has aisles to spare. Bill Clinton can move a million books in a week. Stock exchanges can probably handle ten or even a hundred billion share trading days. Investment bankers are sitting on their manicured hands. In Florida, there is a Walgreens and Eckerts on every corner. Movie theaters are all dodecaplexes.

There are 750 jets mothballed in the Mojave Desert just waiting to get back into service. Broadband goes everywhere but to homes. Enron helped California and a blackout helped the East Coast locate their electricity bottlenecks.

Energy is a problem, but not so much for factories as for commuters. Fresh Iraqi output and a hot demand for Toyota Prius hybrids are sending oil back to $32 a barrel. Concrete, chemicals and commodities are China’s problem and only indirectly ours. My hometown in central New Jersey was surrounded by killer companies: Johns Manville, Sherwin-Williams, Union Carbide. The factories were replaced with offices, filled with biotech labs curing industrial ills.

Inflation will come from the Fed printing too much money, not too little idle workers or factories. Here’s what may happen: The Fed raises rates. When foreigners figure out our economy still grows, but without inflation, they stampede back in. The dollar starts heading up. So does the stock market, or at least parts of it, from money chasing intellectual property company profits. This may be a great time to be an investor. Just avoid the bad fads.

Andy Kessler is the author of “Running Money” to be published in September by HarperBusiness.