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The Fed is gunning for a completely unnecessary recession

In today's Wall Street Journal we learn why the Fed is so concerned about inflation:

At the root of [the Fed's aggressive interest rate increases] is the fear that households and businesses will come to expect high inflation to persist, which can cause it to do so. That would require the Fed to increase rates more than otherwise to break that mind-set.

....When unemployment is at its natural level, they think inflation is influenced strongly by public expectations, which can be self-fulfilling. If consumers expect prices to be higher in a year, they will buy now.

“If you were a landlord and you knew prices were going to go up, you’d demand higher rent right now. If you’re a worker and you knew prices were going up, you’d ask for a raise,” said John Cochrane, a senior fellow at the Hoover Institution. “What people think is going to happen in the future matters desperately for how they behave today.”

....Current data suggest long-term inflation expectations are still anchored, “but there’s a clock running here,” said Mr. Powell. “It would be bad risk management to just assume that those longer-term expectations will remain anchored indefinitely in the face of persistent high inflation.”

So we have four things here. Three of them are guesses and one of them is a fact. If high inflation expectations set in, then:

  • Consumers will buy now.
  • Landlords will raise rents.
  • Workers will ask for raises.
  • Inflation expectations are still well anchored.

I see no evidence, for example, that consumers are "buying now." In fact, big box retailers are literally selling off appliances and other stock directly to discounters without ever putting it on the floor. That's because demand for these things has plummeted.

Landlords are raising rents, but that's largely because they were prohibited from doing so during the pandemic. Now they have three years of normal rent increases to make up in a year or two.

Workers are not asking for raises. Or, if they are, they aren't getting them. Real wages have been declining for over a year.

And yes, inflation expectations are currently pretty well anchored.

Speaking of charts—and we are, because we always are around here—what the heck does this one mean? "75th percentile" of what? "Median" of what? In any case, you can put me in with the 25th percentile, although perhaps not quite that optimistic.

The big problem here is that today's core inflation was caused by problems in the past: supply chain headaches, pandemic restrictions, poor order management by big corporations, etc. The Fed can do nothing about any of that now, but they're panicking anyway because it turns out that these things affect inflation a little farther into the future than the FOMC thought they would. (Remember long and variable lags?)

Then, in addition to core inflation, there's fuel and food. But obviously the Fed can do nothing about the weather, nothing about feed shortages, and nothing about overseas wars. They're gunning for a recession that's completely unnecessary. The causes of inflation are either in the past or in areas outside of Fed control.

And keep in mind that the Fed is weighing these guesses against the certainty that a recession will put millions of people out of work. There have been cases where that tradeoff is necessary, but it's time to put both fear and veneration of the '70s away. It's been half a century, folks. Not every bout of inflation requires Volckerian zeal.

43 thoughts on “The Fed is gunning for a completely unnecessary recession

  1. George Salt

    Oil is below $100 a barrel and gasoline prices have been dropping for two weeks. Perhaps we're past the peak.

  2. marcel proust

    RE: what the heck does this one mean. "75th percentile" of what? "Median" of what?

    The "consumers' expectations for annual inflation over 5 to 10 years" are from a survey; the survey has a sample. Within the sample you can rank order the expectations from highest value of expected inflation to lowest value of expected inflation. Having done that, one can easily determine the 75th percentile of the distribution, the median (50th percentile) and the 25th percentile.

  3. KenSchulz

    If economics aspires to be useful, it needs to improve the precision and validity of its measurements, which today are wholly inadequate to support reliable prediction. Ideologues like Cochran prefer the current state of the discipline, as their speculations then appear as good as anyone else’s.

  4. peterh32

    Exactly right. The Fed is acting like a bad basketball ref calling imaginary fouls because he wants to be involved in the game.

    OK not a perfect metaphor but these guys have desperately wanted to do SOMETHING for so long, and couldn't justify it, so now they're going nuts.

    1. Citizen Lehew

      Or worse, it's acting like a bad basketball ref calling imaginary fouls because half of the people in the crowd are yelling loudly about the ref.

      When a certain party is always rewarded for trying to burn the country down whenever they're out of power, it makes you wonder if our form of democracy really is a good idea.

  5. KenSchulz

    As Kevin implies, the ‘buy now, before prices go up more’ mechanism applies almost exclusively to big-ticket durable goods. Gasoline and eggs are up due to supply problems, not because consumers are stockpiling them. Differential demand across product categories is certainly measurable, and could shed light on whether expectation is actually contributing to demand.

    1. Ken Rhodes

      What? You didn't lay in a 2-year supply of eggs and gasoline when they were so low? Well, I guess that's just your lack of foresight!

  6. Austin

    They're gunning for a recession that's completely unnecessary.

    They could also be gunning for a change in their own management, i.e. wanting their Republican daddies to be back in charge of Congress again. There are a lot of federal agencies that seem to have a lot of holdovers from GOP administrations in them... and economists definitely are more comfortable with already rich people having more money than they are poor and middle class people having more money.

    1. rick_jones

      The current board is evenly split between Republicans and Democrats. Unless you are going to accuse the Democrats on the board of being Quisslings, gunning for different bosses seems implausible.

  7. rick_jones

    Speaking of charts—and we are, because we always are around here—what the heck does this one mean. "75th percentile" of what? "Median" of what? In any case, you can put me in with the 25th percentile, although perhaps not quite that optimistic.

    Assuming the question was not rhetorical, and adding to "marcel proust's" answer, "75th percentile" means that 75% of the consumers surveyed felt inflation would be at that level or lower. Median being the 50th percentile of the answers - half said that level or lower, half said higher. Etc etc.

    And yes, presumably the chart could be improved with a bit of explanation within the chart. Your posting being an excellent example of taking a chart out of its original context (location). I can only assume the source felt the surrounding context was sufficient. Not having a WSJ account I've not followed the link to vet that hypothesis.

  8. cmayo

    Landlords are doing more than just "making up for" not being able to raise rents during the pandemic. 2 years' worth of rent increases (or even 3 years) would not be >10% increase in rents, let alone the 25% year-over-year increase that's actually happened in rents. I have friends here who received rent increase notices of greater than 40% over what they were paying in 2020-2021.

    Landlords are demanding more in rent BECAUSE THEY CAN. Because supply is that constricted, and demand is inelastic. Landlords are demanding more in rent for the same reason gas stations jack up prices before holiday weekends - because they can, and people will be forced to pay it.

      1. cmayo

        "Here" is DC metro area.

        One person did pay less in 2020 than in 2019, and received a 40% rent increase notice for 2022 - it still would have been more than 25% increase if they had been paying in 2021 what they paid in 2019.

        The other person did not pay less when compared to 2019 when they moved in and received a notice of a 20% increase.

        It's also visible if you just look at the units that are out there for rent - the prices are 15%+ higher than they were last year for the same units. The amount that rent has increased this year goes far beyond "just making up for the last 2 years." Landlords have figured out (or are testing) that they can raise rent much higher than they've been charging, simply because they can, and that they will still be able to find tenants at those prices.

  9. rick_jones

    I see no evidence, for example, that consumers are "buying now." In fact, big box retailers are literally selling off appliances and other stock directly to discounters without ever putting it on the floor. That's because demand for these things has plummeted.

    And where is the chart for that?-)

    Still, hunting around, and perhaps not finding things spot on but at least in range (or perhaps cooktop...):
    https://fred.stlouisfed.org/series/A35BNO "Manufacturers' New Orders: Household Appliance Manufacturing (A35BNO)"
    https://fred.stlouisfed.org/series/A35SNO "Manufacturers' New Orders: Electrical Equipment, Appliances and Components"
    https://fred.stlouisfed.org/series/MRTSIR4423XUSS "Retail Inventories/Sales Ratio: Furniture, Home Furnishings, Electronics, and Appliance Stores (MRTSIR4423XUSS)"
    https://fred.stlouisfed.org/series/MRTSMPCSM443USS "Retail Sales: Electronics and Appliance Stores (MRTSMPCSM443USS)"
    et al from https://fred.stlouisfed.org/tags/series?t=appliances

  10. rick_jones

    There have been cases where that tradeoff is necessary, but it's time to put both fear and veneration of the '70s away. It's been half a century, folks. Not every bout of inflation requires Volckerian zeal.

    So what if it has been a half century? I don't think that is a particularly good hook on which to hang your "Keep money cheap" hat. It was a half a century or more later when Glass-Steagall was repealed...
    And, Volckerian zeal?!? When he was nominated to the board in 1979 by Jimmy Carter, the Federal Funds Rate was something like 11.9%. Under Volker's watch it was taken to something like 20% (https://en.wikipedia.org/wiki/Paul_Volcker#Chairman_of_the_Federal_Reserve) Today the Federal Funds Rate is at 1.75%

  11. Honeyboy Wilson

    Trump would have bullied the Fed and called out Powell. Biden will just wait for their actions to cause a recession. And then get blamed for it.

  12. aldoushickman

    "But obviously the Fed can do nothing about the weather"

    I dunno, a sharp recession would probably decrease CO2 emissions.

  13. wasd

    The "we need a year of 10% unemployment to safe the economy" boomer crypto bro brigade is really vocal now.

    I suspect it's because they are watching the same things everyone else is: base effects going in reverse, negative energy/used car outlier numbers psychologically averaging out above 2% core numbers, historical context for absolute prices suggesting demand destruction is long reached, total Russian oil shipments by sea actually increasing by a million barrels a day, the US moving to the more smog producing cheaper winter gasoline mix early this year, the Freeport LNG explosion keeping gas inside the US, the collapsing container shipping, oil and commodity prices, China opening up, developing RNA vaccines and still having somewhat of a real estate sector and the perfectly normal bond market implied inflation expectations.

    ...high gas prices have saturated the public debate and reached even the people who do not keep track closely but everyone with real money on the line has long moved to assuming normal inflation is months away, so right now is the last chance for the sado-monetarists..

    Sure the hawks will switch from headline to core inflation but at a time when gas prices are coming down who cares? I bet the for some surprising CPI for a June of collapsing oil prices means the next interest hike is just 50 basispoints at which point the hawks have one last hissy fit but then the trend continues and everyone will breath a sigh of relief and expectations surveys start becoming self reinforcing

  14. jdubs

    At every moment in history, there is a substantial group of political leaders and 'economic experts' advocating for higher rates.

    The logic bends and twists and is usually irrelevant to the argument. We always need higher rates and the corresponding pain for workers to solve whatever the issue of the day might be.

  15. jte21

    Welp, according to Fox News, we're already in a depression that's 10x worse than the Great Depression thanks to Bidennomics. Did you know the real unemployment rate is 50% and we've all lost our retirement savings and illegal immigrants are coming to rape your daughters. Dark times. Dark times.

  16. KinersKorner

    I see nothing wrong with, nor a recessionary event occurring from 3% interest rates. We won’t get one from that. FEd Funds rate now 1.75. Still not even close to restrictive monetary policy.

    1. golack

      People don't think historically, they just know.

      Gas prices are just touching past highs if adjusting for inflation, and are much better if cost per mile is used. But people just see that they are paying 2x or more to fill their tanks.

      Fed rate still historically low, but high enough to end venture capital subsidizing startup customers as they try to build market share. People just see that their Uber rides and deliveries are not going to cost real money.

      Higher rates were needed--but they shouldn't try to trigger a recession to drive prices down.

  17. D_Ohrk_E1

    Let's flip the fed rate paradigm. What can the market accommodate? That is, what is the market equilibrium fed central rate where employment and real GDP remain positive?

  18. Jasper_in_Boston

    The big problem here is that today's core inflation was caused by problems in the past...

    Which can become tomorrow's problem if expectations of inflation become anchored. This is not an impossibility.

    Not everything is a conspiracy against liberals.

    As usual, I interpret events through the prism of politics, and I reckon the threat to Democrats from continued, elevated inflation is higher than that posed by a mild recession*.

    So I prefer to see Powell and Company take away the punch bowl sooner rather than later. Also, the American consumer is the single largest driver of demand on the planet. A sharp slowdown in the US economy will certainly reverberate globally, and that, in turn, will exert downward pressure on the price of oil.

    *The consensus financial market take is that the coming US recession will, indeed be mild. And, while there are no guarantees of that, there's also no guarantee sharply higher inflation won't persist well into 2023 without tighter monetary policy, which could mean the eventual downturn arrives in 2024. You. Do. Not. Want. That.

    further reading: https://adamtooze.substack.com/p/chartbook-132-nowcasting-the-immediate

    1. D_Ohrk_E1

      I believe the evidence shows that inflation expectations aren't entrenched, but rather, are declining. You can review both the 5-year TIPS price/rate and the 5-year break-even inflation rate, to see that inflation expectations are going down after hitting a high back in March.

      Does that mean that the rate should remain steady? The economy can accommodate rate hikes. If it can't, that says a lot about how the economy has shifted over the decades.

      1. Jasper_in_Boston

        I don't disagree with you here at all, but my fear of the political consequences of continuing elevated inflation are such that I'd personally prefer that the Fed err on the side of (anti-inflationary) caution. For better or worse, it feels like we're going to get to find out if I'm right.

        (Also, with specific reference to your point about TIPS: sure, there's that. But how long does this decline in inflationary expectations take to translate into actual lower inflation—and substantially lower inflation at at that?).

    1. MontyTheClipArtMongoose

      I know I am.

      I only buy TP in 36 (or, once, in 2014, 72) roll packages so that I only have to buy about once every four or five years.

        1. Vog46

          But wait a minute I thought Monty was already WITH NASA
          Not
          Another
          Stinky
          Ass

          Isn't that why Monty buys TP?
          Of course we could go all eco-friendly and use water like they do in Joe Bidet's White House !!!

  19. azumbrunn

    "There have been cases where that tradeoff is necessary, but it's time to put both fear and veneration of the '70s away. It's been half a century, folks. Not every bout of inflation requires Volckerian zeal."

    All we know about the 70s is: Voclker cause one hell of a recession and then inflation went down. Everybody assumes causality: Not totally implausibly I admit but anecdote is not data and correlation is not causation in economics either. And even if the recession DID cause inflation to go down it does not prove that this was the only way to make it go down.

    The parallel anecdote of course is that this recession set the stage for the GOP power grab that has culminated (so far) in the present Supreme Court cases.

    Does Powell really want to help the GOP in this dire situation? Apparently he does not care, either from ideological commitment or because he can't see the forest for all the trees.

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