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

[jaichind]

The latest Fed swaps show a 75bp increase for at least one of the 3 upcoming Fed sessions.  Markets are down to reflect this fact.

[jaichind]

Real (after discounted by 10-year inflation swap) 10-year treasury yield surges to 0.2%.  This is the highest since May 2019.  I like to see this rise to 0.8% or so which would be where it was in mid-2018

[jaichind]

PPI YoY just came in at 10.8%

[jaichind]

The University of Michigan Consumer Sentiment Index falls to 50.2 which is the worst reading ever in the history of the index when it started in 1978.  This level is below the worst levels achieved in the depth of the 2008-2009 Great Recession when they fell in the mid-50s.  It is also worse than the period in 1980 when the USA had a great inflationary surge.

This is a pretty fascinating stat. Worst than the Great Recession?

Correct. Worst than any reading since 1978.  BTW, I think what is taking place today is more like 1980 with the great inflation.  I suspect in reality the situation is better than in 1980 since the respondents are more partisan.  Pro-GOP respondents are much more likely to give a worse-than-reality sentiment given their negativity toward the Biden/Dems resulting in a worse reading than justified by reality. But yeah, the siutation is bad and getting worse.

[jaichind]

The real 10-year yield rises to 0.5%.  It is getting close to my minimum target of 0.8%

[jaichind]

Fed raises rates 75 bp.  Hopefully this is the beginning and we can get to Fed rates of at least 4% over the next few cycles.  I suspect the Fed will still end up behind the curve.

[jaichind]

Fed raises rates 75 bp.  Hopefully this is the beginning and we can get to Fed rates of at least 4% over the next few cycles.  I suspect the Fed will still end up behind the curve.

What do you think are the chances of us getting Volcker'd in the next 2 years?

I am thankful for the buying opportunities over the coming months, but I wouldn't really like to see insane rates a la 80s.

Powell says 50bp or 75bp next Fed meeting.  We are very far from Volcker.  Also, there is another risk that was not there in the early 1980s.  Namely, the interest payments in the USA federal budget are under control only because of artificially low-interest rates since 2008.  If interest rates were to rise to where it needs to be to control inflation then that will blow a whole in the USA federal budget.  So between the Fed and the USA Federal government either they

a) Raise interest rates to rational levels and the federal government raises taxes and cuts spending

OR

b) Keep interest rates on the low side while accepting high but no crushing inflation which would be a tax increase and benefit/spending cut by proxy.

One way or another there is a massive resource gap between the federal government and the USA private sector that has to be closed over the next decade one way or another.  MMT will have to face reality one way or another over this coming decade.  Adam Smith will have his revenge one way or another.

[jaichind]

Unless jaichind believes that the neutral rate of interest is at 4 or 5 percent and that the Federal Reserve needs a federal funds rate of anywhere from 8 to 15 percent to control inflation, there's no reason to think that this tightening cycle would "blow a hole in the federal budget". In fact, based on his previous posts, we should expect the interest rate of a treasury bill to be around 4% at the height of tightening and that this interest rate would fall in 1 or 2 years.

Obviously, he may want to believe that this is true. Perhaps he can have wet dreams about his bizarre delusion that aligns with his ideology. Unfortunately for him, nothing over the past year has contradicted the "secular stagnation" hypothesis of Larry Summers. As far as I can tell, there aren't many serious economists who believe this burst of inflation implies anything about a sudden end to persistently low interest rates. In the end, if interest rates of 2% are enough to bring growth in the US to a sudden stop, that implies the federal government can continue to comfortably run deficits.

Sorry, I am not making my argument clear.  I am not saying that in the long run, the USA inflation rate would not come down to something like 2%-3% after a period of high-interest rates.  Demographic patterns would point to lower inflation in the long run.  Likewise in that new world, there is no reason why interest rates cannot be somewhat above inflation like pre-2008 historical patterns and not dramatically so.  In that world I agree there is no reason, assuming the USD is still the world reserve currency, why the USA federal deficit cannot be in the 2%-4% of GDP range.

What I am agreeing is the nature of that deficit will change.  After a period of high-interest rates to beat inflation in the 1980s the interest on the federal debt rose to around 3% of GDP in the 1990s and only went down to around 1%-1.5% of GDP in the era of artificially low-interest rates.  One would expect to see the same pattern emerge this time around.  But there is one big difference.  In the 1990s the federal debt was around 45% of GDP and now the federal debt is around 100% of GDP.  Given that in both eras the federal interest rate would need to be somewhat, but not dramatically so, above inflation the level of federal spending on interest would be expected to rise above the 3% of GDP reached in the 1990s.  So for the same 2%-4%, a federal deficit that we had in the 1990s the non-interest spending as a % of GDP will have to be a good deal lower than in the 1990s unless taxes goes up and most likely both. 

Ergo my argument is that taxes will need to go up and non-interest spending needs to go down one way or another, either through inflation or by budget balance normalization.

[jaichind]

https://thehill.com/policy/finance/3526315-mortgage-rates-hit-5-78-percent-in-record-spike/

"Mortgage rates hit 5.78 percent in record spike"

Excellent.  The rate rises are starting to have the intended effect.  There is much more to go.

[jaichind]

Powell Says Fed ‘Acutely Focused’ on Returning Inflation to 2%.   Good.  Please act with action.  Go get going and get it done. 

[jaichind]

Bloomberg had an article saying that the coming recession will be "Long, Moderate, and Painful".  It will be Long because it will take time to remove the inflationary pressure so tight money will be around for a while.  One risk of course is the coming recession might be several mini-recessions based on stop-go if the Fed takes it foot of the brakes too early leading to another round of inflationary surges.

[jaichind]

To be fair the Biden "team transition" response would be that in 2021 there was a one-time surge in prices and without the Russia-Ukraine war the inflation in 2022 was going to dive back downward.  I do not agree with them but their narrative does not contradict the data.

[jaichind]

Do you all think it is time current Federal Reserve Chairman Jerome Powell should take Paul Volcker's approach in taming inflation for good, even if it means we suffer a sharp, deep recession in the short-term? 

I think it comes down to how entrenched inflation expectations are in the economy relative to the Fed's judgment of such expectations.  As a result, the Fed could be overly aggressive or timid.  Of course, another central point here about raising rates and ending QE is that the issue of the high federal debt to GDP was not a factor in the 1980s.  This means higher rates will have a very significant impact on the level of interest payments going forward as a % of GDP.

The Chinese tried fiat current several times, namely in the Sung, Yuan, and Ming dynasties.  Each one lasted around 100 years before it blew up (the Yuan episode was more around 50 years.)  The Ming fiat currency episode was so bad that the Ching dynasty never even bother trying and stuck to the silver standard. The Fed was created in 1914 so the USA fiat currency scheme running into trouble is right on schedule (although one can argue the end of Bretton Woods in 1973 is the real start of USA fiat currency.)

The USA of course is in a much stronger position than the Chinese dynasties of old.  But to get out of the current fix the voters will have to accept that the spending over the last 20+ years was never paid for (including the Iraq and Afgan war fiascos) and now they will have to accept lower social welfare and military spending in excess to fund the interest payments on those unfunded spending.  And yes that also means no more free money for Ukraine or NATO and various other foreign policy boondoggles.  If the USA voters can come to terms with this the current fix can be resolved.  If not then we will have more start-stop inflation surges and economic stagnation as the Fed continues to try to monetize the debt that continues to rise and make the fix that much more painful when it does have to come.

[jaichind]

More bizarre and misinformed points from jaichind:
1. The federal government faces borrowing costs that are unprecedented....over the past four years. In 2018, nominal interest rates on 10-year treasuries were similar. Of course, the real interest rate of a 10 year treasury note is negative at the moment. It's unclear how jaichind can motivate his claims about interest rates today having an impact on the level of interest payments going forward in light of this. If markets are tanking in response to rate hikes that are projected to bring the federal funds rate to their maximum in 2018, give or take a few 0.5 percentage points, this something about the neutral rate of interest as well.
2. Bluntly, his last paragraph is masturbatory. However much he might wish for there to be a fiscal reckoning, however much he might wish for Russia to defeat Ukraine, none of this is necessary. Zero justification is provided for his fantastical claims.

Here's my prediction: I think it's far more likely that the US experiences a deflationary episode by late 2023 than for the US to suffer another year where the headline rate of inflation exceeds 4 percent. In fact, my baseline prediction is that in 2023, the headline rate of inflation will be lower than 2 percent. The core rate of inflation will likely exceed 2 percent or something like this. To be clear, the transmission lag of monetary policy is very long - usual estimates are that it takes at least 4 quarters for the impact of rate hikes to be fully-felt. The best guess is that it takes ~8-9 quarters.

We're still in a regime of secular stagnation, where governments can basically run ponzi schemes. You may return to usual business in another year. Prices will be moderate, growth will be sluggish and economics will be boring again soon.

I think the core question is: After this set of interest rates increase cycle is done will real interest rates revert to historical levels (positive) or will we revert to the financial repression of 2008-2022.  If real interest rates do revert to positive levels then given the large debt to GDP ratio the interest costs will mean that primary spending will have to decline as a % of GDP.  If financial repression comes back then that can only take place in a period where we are running below potential GDP or else there will be an inflationary surge.  I totally accept it is possible that the future might be more of 2008-2022 where the USA economy keeps on running below potential GDP which means financial repression can take place without an inflationary surge.  I am just subjectively claiming that this seems unlikely.

[jaichind]

USA Department of Labor is saying that there are fake June CPI numbers being circulated.  The data is expected tomorrow at 8 30am.  That this is taking place show how central inflation has become to the entire economic narrative. 

[jaichind]

Holy cow ... CPI YoY came in at 9.1% ... MoM was 1.3%.  This is out of control .  The Fed has to get going in 100 bp increases.

[jaichind]

It seems the gas price surge plays a good part in the price surge.  I suspect part of this is lagging in terms of housing costs.  Rent prices were surging last year but they only count toward CPI when new leases are signed with a lot of them being signed this year to reflect market rent increases from last year.  Also, supply factors I am sure play a role.  Last week's labor report shows that the labor force lost 350K people.   Not good from a potential GDP point of view.  I hope Andrew Yang is watching.  When you pay people to do nothing they are more likely to choose to do nothing. 

[jaichind]

Holy cow ... CPI YoY came in at 9.1% ... MoM was 1.3%.  This is out of control .  The Fed has to get going in 100 bp increases.

Three 75 pointers in the next year would be reasonable. That would bring us to 375-4. About where it normally is.

Fed fund swaps now have a 1/2 chance of a 100bp increase next Fed session.  Good, there has to be some sanity in the system.  Frankly, I think it should be higher but given how timid the Fed is I accept 100bp is the largest I can hope for.

[jaichind]

Federal Reserve Bank of Atlanta President Raphael Bostic said “everything is in play” for policy action after data showed that US inflation accelerated again to a fresh four-decade high last month.

Good.  Let's get going.  Let's get it done.

[jaichind]

It seems the gas price surge plays a good part in the price surge.  I suspect part of this is lagging in terms of housing costs.  Rent prices were surging last year but they only count toward CPI when new leases are signed with a lot of them being signed this year to reflect market rent increases from last year.  Also, supply factors I am sure play a role.  Last week's labor report shows that the labor force lost 350K people.   Not good from a potential GDP point of view.  I hope Andrew Yang is watching.  When you pay people to do nothing they are more likely to choose to do nothing. 

If you don't understand the methodology generating these data, I don't recommend analyzing these data. No labor economist commented on the labor force statistics in raw numbers last week because the household survey is known to be volatile within a band. It isn't concerning if the labor force participation rate decreases by 20 or even 30 basis points in one month! In fact, if you look at the time series, labor force participation rate often moves up and down. These monthly movements are apparent even if you look at the entire history of the series...

That is a fair criticism although I contend historically the household survey tends to be a leading indicator of establishment surveies later to come ergo I do put some focus on them.

[jaichind]

JPM's Dimon: "Inflation Will Rise A Little Bit More Than People Think"

[jaichind]

PPI YoY came in at 11.3%

[jaichind]

JPM's Dimon: "Inflation Will Rise A Little Bit More Than People Think"

What do you mean by “a little”?

I have no idea.  I am just quoting Dimon.  He is also not clear about what "people" means.  Is that economist or the general population.  I assume he means that inflation numbers will continue to surprise on the upside for a few months.

[jaichind]

Federal Reserve Bank of St. Louis President James Bullard said the central bank may need to raise interest rates to 3.75% to 4.0% in 2022 versus the current consensus of 3.5%

[jaichind]

ECB raised rates 50 bp which is pretty weak in light of the inflationary surge.  In Japan where inflation is rising but still under control by with JPY crashing is coming under more pressure but refuses to consider rates increases.   The reason why they are not acting is for the same reason, just much worse, than what I wrote about the USA situation where interests rates normalization to positive real borrowing costs would have a impact on the central government budget.  Whatever the rise in interest payments USA will face is small when compared to PIGS in EU and Japan.  If and when real borrowing cost finally turns positive in PIGS and Japan the fiscal impact would be even bigger than what the USA will have to go through.   Just to show that as significant the impact on the USA fiscal future will face it will be a lot worse in Japan and PIGS.  The focus in EU is on Italy but the problem is all of PIGS and not just Italy.