Paul Volcker

Paul Volcker (1927-2019) was the 12th Chairman of the Federal Reserve, the central bank of the United States, serving from 1979 to 1987. Standing at a towering 6 feet 7 inches, Volcker was a true giant of modern finance, both literally and figuratively. He is most famous for his relentless and ultimately successful war against the crippling inflation that defined the American economy in the 1970s. Appointed by President Jimmy Carter and reappointed by President Ronald Reagan, Volcker implemented a painful but necessary dose of economic medicine. His strategy involved a dramatic tightening of monetary policy, which sent interest rates to unprecedented heights. This “Volcker Shock” plunged the U.S. into a deep recession but succeeded in breaking the back of inflation, setting the stage for decades of subsequent economic growth and stability. His legacy serves as a powerful testament to the importance of central bank independence and the long-term benefits of maintaining price stability.

When Volcker took the helm of the Fed, he faced an economic monster known as stagflation—the toxic combination of high inflation and stagnant economic growth. This was the worst of both worlds, eroding the purchasing power of savings while jobs were scarce.

The 1970s are often called the “Great Inflation” period. Prices were spiraling out of control, and public confidence in the economy was collapsing. Previous attempts to curb inflation with gentle interest rate hikes had failed. People came to expect high inflation, creating a vicious cycle where workers demanded higher wages and businesses raised prices in anticipation of future cost increases. This inflation expectation was the disease, and Volcker believed a radical cure was needed. For investors, this environment was a nightmare. The real, after-inflation returns on stocks and bonds were often negative, meaning your money was losing value even when it was “invested.”

Volcker’s solution was audacious and brutal. Instead of directly managing the federal funds rate (the rate at which banks lend to each other overnight), he chose to target the growth of the money supply. By sharply restricting the amount of money in the financial system, he forced interest rates to find their own, much higher, level. The results were immediate and severe:

• The prime interest rate, the rate banks charge their best customers, soared above 21% in 1981.
• The U.S. economy tipped into two recessions between 1980 and 1982.
• Unemployment climbed above 10%.

Farmers, construction workers, and automakers protested his policies, but Volcker held firm. His unwavering focus on crushing inflation, despite the immense political and social pressure, eventually worked. By the mid-1980s, inflation had fallen from a peak of nearly 15% to around 3%, creating a stable foundation for the economic boom that followed.

Volcker's story is more than just economic history; it offers timeless lessons for any serious investor, especially those who follow the principles of value investing.

Volcker demonstrated that stable prices are the bedrock of a healthy economy and a prerequisite for successful long-term investing. Inflation is a silent thief that erodes the real value of cash and fixed-income assets. A value investor’s goal is to increase their real purchasing power over time, and Volcker’s battle reminds us that a currency you can trust is a gift that should never be taken for granted.

The “Volcker Shock” was a classic case of short-term pain for long-term gain. This principle is at the very heart of value investing. A value investor must have the discipline to:

• Buy assets when they are unpopular and out of favor (painful in the short term).
• Endure periods of market volatility without panicking.
• Focus on the long-term intrinsic value of a business, not the market's fleeting moods.

Volcker’s willingness to induce a recession to secure a generation of prosperity is the macroeconomic equivalent of a value investor buying a great company during a period of temporary trouble.

Long after his time at the Fed, Volcker’s influence continued. In the wake of the 2008 financial crisis, he became a vocal advocate for financial reform. His ideas were a cornerstone of the Dodd-Frank Act (2010), leading to a specific provision named in his honor: the Volcker Rule. The rule’s purpose is to prevent commercial banks (which take government-insured customer deposits) from engaging in risky speculative bets with their own money, a practice known as proprietary trading. The logic is simple: banks that are essential to the economy and backed by taxpayers shouldn’t be gambling like a hedge fund. While debated and modified over the years, the Volcker Rule reflects its namesake’s core belief in a stable, less speculative, and more resilient financial system—a goal that benefits all long-term investors.