Fed plans to raise rates as soon as March to cool inflation

[jaichind]

Funny I mentioned the 1985 Plaza Accords.  I just read an article where the Biden administration rules out another Plaza Accords to arrest the surge of the USD.  I guess in a supply-constrained vs a demand-constrained world there is a smaller benefit to having a weak currency to help with export competitiveness.

[jaichind]

 James Carville said in the mid-1990s that if there was reincarnation " I would like to come back as the bond market".  That world mostly came to an end after the 2008 crisis.  That world is back.

[jaichind]

https://www.bloomberg.com/news/articles/2022-09-28/boe-to-carry-out-purchases-of-long-dated-uk-bonds-to-calm-market#xj4y7vzkg

"BOE Steps Back Into Bond Market to Restore Stability"

Sign.  The QE is like a drug.  Once you use it is a hard habit to kick.  It allows you to live in a MMT-like magical world with no consequences and where everything is free.  Eventually, you have to pay the piper.

[jaichind]

PCE Deflator MoM came in at 0.3% as opposed to 0.1%.  The trend is still negative.  Hopefully, the recent rate increase and more to come will start to get this under control.

[jaichind]

PCE Deflator MoM came in at 0.3% as opposed to 0.1%.  The trend is still negative.  Hopefully, the recent rate increase and more to come will start to get this under control.

Is this a sign that inflation is decreasing too fast, too slow, or about right? People are beginning to worry about deflation.

MoM at 0.3% is not bad but not that great.  What it means is that PCE (personal consumption expenditure) Deflator (which is the Fed's preferred way to measure inflation) is rising at a 0.3% annual rate in one month which would work out to around a 4% annual rate.  Note that deflator is not deflation but how it gets calculated where you figure out the real PCE of each month and then look at nominal PCE to derive how face PCE prices are rising.

[jaichind]

PCE Deflator MoM came in at 0.3% as opposed to 0.1%.  The trend is still negative.  Hopefully, the recent rate increase and more to come will start to get this under control.

Is this a sign that inflation is decreasing too fast, too slow, or about right? People are beginning to worry about deflation.

MoM at 0.3% is not bad but not that great.  What it means is that PCE (personal consumption expenditure) Deflator (which is the Fed's preferred way to measure inflation) is rising at a 0.3% annual rate in one month which would work out to around a 4% annual rate.  Note that deflator is not deflation but how it gets calculated where you figure out the real PCE of each month and then look at nominal PCE to derive how face PCE prices are rising.

So real inflation right now is about 4%?

If the MoM numbers continue this way.  4% is not good.  Fed wants it to be 2%

[jaichind]

A good Japanese chart of the current Fed fund swaps markets are showing up to the middle of 2023

[jaichind]

CPI YoY came in at 8.2% versus the expected 8.1%.  What is bad news is MoM is 0.4% versus the expected 0.2%.   The battle against inflation will go on for a while it seems and likely Fed Fund rate increase going forward will be more likely to be higher than expected

[jaichind]

Fed fund swaps now have peak reate of 4.85% around March 2023

[jaichind]

This Nov it will be almost certain 3.25%->4.0%

[jaichind]

What Fed does with QE is basically borrowing short-term floating and getting paid long-term fixed.  While the short-term rates were low the Fed makes a profit.  In 2021 this profit was  $107.8 billion which was handed over to the USA Treasury

https://www.federalreserve.gov/newsevents/pressreleases/other20220114a.htm

It is now certain that the Fed will now operate at a loss going forward.  So in 2022 and beyond the Treasury can no longer expect funding from this source.

[jaichind]

"Core" inflation which is inflation w/o feed and energy rose to 6.6% YoY which is a record since the inflationary surge of the early 1980s.  The argument on the "spread" of inflationary expectation throughout the economy is now getting stronger when during the summer the data showed such arguments were getting weaker.

[jaichind]

The 30-year yield discounted for 30-year inflation swaps surges past 1.6%.  The long-term fiscal position of the USA government is weakening before our eyes to the benefit of investors that focus on fixed income.

[jaichind]

Social Security COLA for 2023 will be 8.7%  This makes sense from a data point of view that this surge of cash to those on Social Security  will add to the overall inflationary expectations of the economy overall.

[jaichind]

What Fed does with QE is basically borrowing short-term floating and getting paid long-term fixed.  While the short-term rates were low the Fed makes a profit.  In 2021 this profit was  $107.8 billion which was handed over to the USA Treasury

https://www.federalreserve.gov/newsevents/pressreleases/other20220114a.htm

It is now certain that the Fed will now operate at a loss going forward.  So in 2022 and beyond the Treasury can no longer expect funding from this source.

https://www.yahoo.com/now/fed-losing-billions-wiping-profits-060001473.html

"Fed Is Losing Billions, Wiping Out Profits That Funded Spending"

Fed "profit" will go from $100 billion in 2021 to a negative $80 billion this year.  A lot of this is because of QE which will need to be unwound eventually triggering more losses down the line.

[jaichind]

Goldman Sachs Now Sees Fed Rates Peaking at 5% in March 2023.  This sort of make sense.  On on YoY basis, I expect CPI to fall to around 5% around the same time.  I guess the idea is that once the Fed Rates are above CPI it makes sense to stop and assess how CPI falls from there.

[jaichind]

https://www.bloomberg.com/news/articles/2022-11-04/summers-sees-risk-fed-needs-to-hike-past-6-to-quell-inflation

"Summers Sees Risk Fed Needs to Hike Past 6% to Curb Inflation"

Summers must be spooked by the CPI MoM surge recently.  I am now more dovish than Summers.  I think CPI MoM will slow down going forward which means CPI YoY will slow down to around 5% by April/May 2023.  If so then I think if Fed goes to 5% by Spring of 2023 would be good enough.  Summers clearly does not take my optimistic view of the future.

[jaichind]

Oct CPI YoY came in at 7.7% MoM at 0.3%.  Both less than expected

[jaichind]

These latest CPI numbers seem to indicate the peak Fed rate early next year is more likely to be 5% as advocated by GS versus 6% as advocated by Larry Summers.

[jaichind]

Oct PPI MoM came in at 0.2% ... Adding to the inflation-peaking narrative.

[jaichind]

Personal Savings Rate 3M Moving Average ⁦hits record low.  Pretty much all the cash handed out during COVID-19 is being burned up.  Good news on the inflation front.  Pretty soon cash for unsustained consumption will run out and prices will finally stop increasing and then start to fall.

[jaichind]

One thing with inflation with the 1970s is that the perception that inflation harmed the economy then has had to be revised. Real GDP growth of the 1970s in the U.S paled the Real GDP growth of the 1950s and 1960s, but was better than the Real GDP growth of every decade since then with the exception of the 1990s. So, the anomaly was not the economy of the 1970s with the high inflation, but the economy of the 1950s and 1960s coming out of the Great Depression and World War II with the U.S as by far the leading exporter in the world.

For the most part, the only time the economy did not perform well in the U.S in the 1970s was during the oil shocks/embargoes in 1973 and 1979/1980.

I think we are clearly seeing that again. This is not to say that inflation doesn't have negative consequences on an economy or on individuals in an economy or that it wouldn't be best to get it back into the 2% range, but it is to say that it seems that people and the economy do ultimately adjust to most anything.

I agree there is nothing magical about 2% inflation being superior to, say 5% inflation.  What is needed is predictable inflation.  Erratic inflation makes long-term economic decisions difficult to make.    And the most predictable inflation is 0%.  The problem with 0% inflation, which I am obviously for,  is that the stickiness of prices makes relative market price adjustments more difficult.  As a result, 2% inflation as a target became a compromise between these two goals.  I am fine with a stable 4%-5% inflation as long as it is stable 4%-5% inflation per year.  The risk of a price spiral is much greater with a 4%-5% inflation environment which makes it a lot more risky economic steady state to be in.

[jaichind]

Amazing what a rise in real short term interest rates would do in combination of years of QE

[jaichind]

Bloomberg's economic model has a 100% chance of a recession in the USA in 2023.  The model has it starting in Sept 2023.  If true then I suspect it would be around then that Fed will start to cut rates assuming that inflation will crash throughout next year.

[jaichind]

Interest rate and federal borrowing cost normalization means that interest payments on the federal debt surged to $853 billion.  As existing debt is rolled over with higher interest rates this will rise a lot over the next few years and it will not surprise me if it reaches 25% of federal income or around 5% of GDP.