PLW - The Fed Does Not Need To 'Do More'
Summary
- Fed Chair Jerome Powell talks the party line when he says the Fed may need to “do more” if we get more hot inflation and jobs reports.
- Employment is a lagging indicator. The fact that the jobs picture is fine now doesn’t mean it will be fine in six months.
- It’s kind of hard to borrow short and lend long for a financial intermediary if short-term rates are above long-term rates.
Fed Chair Jerome Powell talks the party line when he says the Fed may need to “do more” if we get more hot inflation and jobs reports, but that is just what he thinks he needs to say, not what he needs to do.
Employment is a lagging indicator. The fact that the jobs picture is fine now doesn’t mean it will be fine in six months, as most measures of the yield curve are in record inversion territory, causing credit growth to slow down dramatically and the M2 Money Supply growth to turn negative for the first time in history.
It’s kind of hard to borrow short and lend long for a financial intermediary if short-term rates are above long-term rates. Sure, a bank that has a deposit base and funding on non-interest bearing accounts can do it, but what about the rest of the financial system?
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.
The 2-10 spread is more introverted than at any point going back to the term of Paul Volcker, Fed Chair from 1979 to 1987. In his first term, he had to create some pretty horrific recessions in order to win the battle of inflation.
In an interview at the Economics Club of Washington last week, Powell mentioned that inflation is because of COVID, not due to what the Fed did at the closing and reopening of the economy.
I don’t believe inflation is only because of the Fed. There is the $6 trillion in COVID spending authorized by Congress in one year – much of it monetized by the Fed – necessary to prevent a second Great Depression.
The price of that emergency spending is higher inflation. The next year, Powell fell asleep at the switch and oversold the “transitory” nature of inflation as he delayed acting on the issue for one year , so I think the blame for higher inflation should be equally split between Congress and the Fed.
My personal inflation target for the end of 2023 is 2%, and I would not be surprised if we overshot to the downside because of this shrinkage in M2 Money Supply – never before seen in recorded history.
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.
Looking at the long-term inflation data since 1800, one would notice significantly more deflation red bars before the creation of the Federal Reserve in 1913. This is because there was no central bank to play a counter-cyclical role and meddle in the money supply.
It was fairly common to see negative 5-10% inflation, aka deflation, in the 1800s, not to speak of -15.75% in 1802. This brought a lot of volatility in GDP growth, which didn’t help the development of the economy, hence the Federal Reserve was born.
One could call pre-1913 the “hard money” (mostly gold standard) years and the post-1913 the “soft money” years. I suppose we all pay for smoother GDP growth with higher (or more persistent) inflation.
The Fed also keeps the jobs market less volatile, which sounds a little odd to say when they are now hitting on the monetary brakes with the present 3.4% unemployment rate.
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.
If inflation were to decline precipitously by the end of 2023, the best way to play it is via Treasury bonds. The 10-year rate is under 4%, while inflation is declining.
Any purchases of Treasury bonds around 4% should be a good deal over the next two years, as I seriously doubt the 10-year is going to 5% with this kind of inverted yield curve and inflation already trending lower with shrinking money supply.
One unpredictable inflation factor is the war in Ukraine, which could cause a spike in the price of oil if Russia reduces even more output than the 500,000 barrels per day announced last week.
Agricultural commodities also are in danger as exports out of Ukraine will be hard to deliver. I have no idea if the Russians will make progress this spring, but I will give you pretty high odds based on their history that they will try hard, which makes the situation somewhat less predictable when it comes to inflation.
All content above represents the opinion of Ivan Martchev of Navellier & Associates, Inc.
Disclosure: *Navellier may hold securities in one or more investment strategies offered to its clients.
Disclaimer: Please click here for important disclosures located in the "About" section of the Navellier & Associates profile that accompany this article.
Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.
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The Fed Does Not Need To 'Do More'