I cannot help feeling that I have "Seen This Movie Before"
As we look at the message from the Fed it seems clear that they are fighting yesterday's battle of more correctly formulating policy on yesterday's mistakes.
The scars of the 2020-2021 "transitory Inflation" debacle have clearly not healed and were likely somewhat compounded when Employment "appeared" to have stabilised following summer/fall softness that led to 100 bp's of cuts.
Now they are back to a point that they do not want to move as they assess the effects of new economic policy.
That is all very well but there are 2 sides to that "sword".
The Fed is primarily on one side and the "likely" effects of tariffs.
Let's start with that.
Firstly, let us presume for a moment that tariffs do go on for a "material period" and as a consequence are inflationary. Neither of those presumptions can be cast in stone but stay with me.
Firstly, tariffs are taxes.
If the Government suddenly decided to implement at 20% Federal sales tax for example prices would of course go up. But that is not a demand driven rise or even a supply driven rise it is a fiscal tightening. All else being equal what do Economic textbooks tell you about the interaction of fiscal and monetary policy?
If we are in equilibrium (a word the fed has used a lot recently with regard to their dual mandate, then the reaction to fiscal tightening is monetary easing because fiscal tightening takes money out of people's pockets in a single but semi-permanent shock.
In 2020-2021 it was exactly the opposite. Fiscal easing put literally "boatloads of money" in people's pockets and the policy response was to take interest rates to ZERO for an extended period and engage in huge QE at the same time as we had a huge supply shock.
How could we have possibly anticipated the inflation that followed as the savings rate went to 32% and we let people eventually out of "Covid Jail"? SERIOUSLY???
Also, the reality here is that we cannot be sure whether these tariffs will play out and in what form. We don't know the effect of "substitution" directly will be. We don't know if there will be an exchange rate adjustment that balances it somewhat. We don't know if foreign suppliers will reduce prices. We don't know if companies will reduce profit margins. We just don't know.
The Fed uses "Don't know" as a policy statement while ignoring what we do know?
We do know that Core PCE is now down to around 2.6% annualised as well as 6 months annualised. On a 3-month annualised (including the constantly elevated January print) it is more like 2.4%. It is back below the 2006 peak and is at the low of the downtrend from the Feb 2022 peak at 5.7%. That puts real yields (Fed funds mid-rate) at close to 200 bp's and if using mortgage rates, close to 450 bp's.
We do know that the economy appears to be slowing. This is an economy that increased in size by about $7.5 trillion while we borrowed about $9 trillion.
We do know that the savings rate is gone. From a peak of 32% in 2020 to 4.6% now. That is pretty much at the absolute low end of the range we were at between 2009 and 2019. Absent the Dot Com bubble burst (2000-2001), leading into the GFC (2004-2008) and post the Covid "spending splurge" (2021-2022) we have rarely been this low in the last 65+ years.
And in recent months Consumer credit has far outpaced predictions suggesting that the consumer is becoming tapped out and resorting to increased borrowing to maintain the post covid lifestyle. The most recent print will be at 3 pm EST today (Forecast rise of $14.9 billion)
We know that the unemployment picture is softening again.
We see it in JOLTS.
We see it in the Jobs plentiful/jabs hard to get ratio.
We see it in 2 consecutive months of NFP on a "1 handle" (initial print) for the first time since August 2024 when the Fed cut 50 bp's.
We see it in the drop in the participation rate to the lowest level since January 2023
We see it in the Underemployment rate (U6) at 8% (highest since October 2021) with a rise of over 900k in people employed part-time for economic reasons
We see it in the drop in the number of people employed full-time last month by 1.2mm
We will see it further in the reduction of Government workers (and the knock on to private contractors) that is clearly coming.
We see it in the terrible numbers for Challenger Job cuts announced last week.
We know that there is a good chance that the middle east and Ukraine wars could end soon (yes Iran remains in the crosshairs but that could be conflict or resolution)
We know that Oil and energy prices have collapsed with WTI down nearly 20% high to low since January
We know that the fiscal policy is looking to cut spending
We know that AI is disinflationary
We know that China and Europe at this point are in a growth doldrums and not exporting inflation anytime soon, even as they try to stimulate their economies.
So bottom line to me the overwhelming narrative is more pre covid disinflationary than post Covid inflationary...BUT
We also know that the Fed determines what it wants to do and then selectively validates it by cherry picking their reasoning.
That is why they constantly get caught behind the curve and in my view are right back on that path again.
They will have to be dragged "kicking and screaming" back on to the easing path but dragged they will be.
