Inflation is down. But there are doubters about the cause:
All it took for inflation to be transitory was 500bps of rate hikes and 7% mortgage rates.
— Conor Sen (@conorsen) July 12, 2023
Oh come on. This really doesn't bear much scrutiny. Here's inflation:
Even if you don't believe me when I say that it takes a year for interest rates to work through the economy and affect inflation—which to this day remains the general consensus of economists—you can't possibly believe that a quarter-point hike in March 2022 caused inflation to start declining in June. Inflation started coming down on its own, not because of anything the Fed did.
As for housing:
Mortgage rates did indeed skyrocket last year, but their effect on the housing market was surprisingly minimal. Housing under construction went up. From peak to trough, housing prices went down only 5%. The total value of residential construction went down about $100 billion—far too little to have much macroeconomic effect—and is still $200 billion above its pre-pandemic level.
Inflation went up mainly because of pandemic supply shocks and partly because we overdid federal stimulus a bit. There were also some temporary factors, like the Ukraine war and crop problems. When those subsided, so did inflation. The Fed has had almost nothing to do with it.
"which to this day remains the general consensus of economists" - patently false.
Overall, you simply claim too much. You make claims against a counterfactual no one can disprove.
Expectations matter greatly in the economy, and the Fed made their intentions clear. We don't know how much that mattered (there is no way to know), but it mattered.
So your impossible to prove counterfactual narrative is:
There is no way to know the timing or the degree to which interest rate expectations affect inflation, but i know they matter somehow and i know you are somehow wrong. Prior research may have shown that the effects of rate increases take time to show up, but that is of no concern if we simply ignore it and dismiss anyone who brings it up.
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I like this narrative. Its simple and what it lacks in explanatory capabilities or factual grounding, it makes up for it in ease of use.
One claims:
"I am certain that the Fed has had no effect on inflation."
The other claims:
"Interest rates have visible effects on the economy, and I won't pretend to know how much, but you can see that they've done *something,* and every business owner, market participant, and first-year econ major will tell you they matter."
You really want to tell me that the SECOND one lacks explanatory capabilities or factual grounding?
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I know that, in the past, interest rates have taken a long time to impact the economy. But the economy has changed! It moves much faster and reacts much faster to new information. We recently saw the first meme-inspired bank failure.
All I'm asking is for a little more humility, and to stop saying things that are patently false, like (I'm paraphrasing) "year-over-year inflation is distorted by the last six months of 2022" and "to this day, the general consensus of economists is that interest rate hikes take a year to have any impact on inflation."
Your second statement is clearly very generalized and provides literally no useful guidance.
"Interest rates have some kind of hard to describe effect on the economy over some unknown timeline"
This is not contested by anyone. It doesnt provide a counter to any claim that Kevin (or anyone else) has made.
Your claims that Kevins statements are patently false are not supported by any evidence nor any kind of actual argument.
I realize that you have an opinion and thats great. But you are making the exact argument that you claim Kevin is making (unsupported, counterfactual that noone can disprove, etc).
The first patently false statement I described was a reference to yesterday's post about inflation. You replied to my comment so I know you read my detailed explanation about why that statement was false, but here it is again:
https://jabberwocking.com/inflation-plummets-near-zero-in-june/#comment-111340
You accused me of being misleading yesterday but all I did was very simple math showing that the last six months of 2022 saw core inflation at the same annual rate as the first five months of 2023. It is simply false that the year over year inflation rate is being distorted by the last six months of 2022. That's false. You didn't reply to my follow up asking why it was misleading, so I don't understand what about that simple math you took issue with, but it's quite simple.
Regarding the second statement, I don't have the time or interest to compile various economists who have posited that the advances in information technology, Fed communication practices ("forward guidance"), and overall market conditions make it very plausible that interest rate hikes have a faster impact on the economy than they used to. But these things have been widely covered in the press. If you care to google them, I'm sure you'll find plenty of examples, but I don't think I would convince you even if I did that Googling so I won't bother. I'm sure this means you will continue to dismiss me and that is a risk I'm willing to bear.
I do have an opinion, and it is this: Kevin has been far too certain about his predictions of recession and his view that Powell is the Worst Fed Chair Ever. See his assertion here that we were due for a recession in the first half of 2023 and that the Fed has made that worse:
https://jabberwocking.com/two-recessions-are-barreling-toward-us-next-year/
See here his assertion that a recession starting in "a few months" from January 31 was the most likely outcome:
https://jabberwocking.com/a-recession-is-coming-our-way/
I could go on and on. These things have not come to fruition, and I would think, under the circumstances, Kevin might adopt just a tad more humility and admit that he doesn't know what is driving inflation or what the impact of the Fed's rate hikes might be.
From 1978 - 1981 the FOMC raised interest rates by 100 basis points on seven occasions; all the increases were apparently unexpected, as inflation continued to rise … ????
The world is every so slightly different today than it was in the late 70s.
A true statement which entails nothing concerning the effectiveness of expectations.
See previous comments as to why I believe the market reacts much more quickly to the prospect of rate hikes.
I can't prove it, but I believe it. You can disagree with me. But if you're right and I'm wrong, we're going to have a pretty massive recession soon. I hope I'm right.
No, it does not remain the general consensus of economists.
That chart is precisely what I would expect to see, even if it is a bit... sharp.
Whatever the consensus of economists may be the fact is that the Fed raised interest rates for years in the 70's to astronomical levels, and inflation just kept going up. The idea that the Fed's raises in 2022 brought inflation down in a couple of months is just nonsense on the actual evidence. What caused the inflation in this case and what caused the end to it are actually clear from the evidence as Kevin and some economists (e.g. Krugman) have explained, and the Fed had nothing to do with it.
You can't understand this matter by reading newspaper stories or even supposedly expert columnists (financial-page writers are mostly hacks). Kevin has actually looked at the pertinent data and from that the picture is fairly clear.
be the fact is that the Fed raised interest rates for years in the 70's to astronomical levels, and inflation just kept going up.
The Fed under Paul Volcker jacked rates up to stratospheric levels in 79-80, and inflation, in fact, did come down:
https://en.wikipedia.org/wiki/Paul_Volcker
You're welcome to your iconoclastic views on this. And maybe they're correct. The consensus is often wrong! But the Fed's/Volcker's centrality in slaying the excessive inflation beast of the 1970s is, in fact, the consensus.
I dont think that anyone denies that this is the narrative and deification of Volker....but the narrative fails to make any sense given that it took 10 years of high interest rates before inflation was back down to 'normal' levels. Thats a long time....and it should make you question the narrative.
I believe there were other things happening at the same time back then, such as an oil embargo that drove the cost of oil up which in turn made transporting goods around the country and world a lot more expensive. I would imagine that too had an effect on inflation, regardless of whatever interest rates were, but I Am Not An Economist.
Also just as an aside, as a Gen Xer who is almost a Millennial, I can’t wait for everyone who actually remembers the 70s is gone from the earth. Whatever happened back then seems to have broken their brains whenever it comes to fears of future inflation. (“It’s always evil! Even if wages and employment keep up with it! We must crush the working class some more to stop it!”)
Gee, thanks wishing for my demise 🙂
If anything, for my wife & me our memory of the 70's and 80's has made us much more tolerant of the current times. She remembers her first mortgage at a little over 10%. Mine was 7.25%, and I thought that was *fabulous* (missed 7.125% by a week!)
But if it makes you feel any better, the time from then until now is *probably* longer than the time from now until my death.
but the narrative fails to make any sense given that it took 10 years of high interest rates
Define "high" — and also be sure to draw a distinction between real and nominal...and also note Volcker and pre-Volker notions of tightening.
The Fed beginning in 1979 was far more aggressive.
I don't think the notion that insufficient monetary tightening is insufficient is controversial.
This is from Cato, of all people -
https://www.cato.org/blog/stop-lionizing-paul-volcker-villainizing-arthur-burns
Falsification for the win!
ftfy
"Inflation went up mainly because of pandemic supply shocks and partly because we overdid federal stimulus a bit" and corporations added extra markups.
The Fed needed to raise rates, and that did bust some bubbles. And yes, it did help lower inflation a bit and we have yet to feel the full effects. But claims that the Fed solely vanquished inflation this time is like the rooster saying he caused the Sun to rise.
How about, "The Fed stepped in to keep temporary inflationary effects from solidifying into persistently high inflation"? They acted consistently with their general approach of the past forty years, and they did it while barely raising real interest rates above zero.
"we overdid Federal stimulus a bit"
We made a political judgement, on less than perfect data, that keeping food on people's tables and roofs over people's heads was worth a bit of inflation.
+10
Krugman makes this point all the time -- the possibility of overdoing stimulus is real, but so is the possibility of underdoing it. There's an asymmetry in the downsides -- years of missed growth potential and missed earnings potential that can follow a person a lifetime, vs. a little extra inflation. He always argues that it's better to err on the side of the latter than the former.
Great point.
The stimulas was massive success.
Not a very good analysis: correlation conflated with causation.
Yes, the downturn of inflation began before any Fed actions could have had any significant effect, and no doubt this was due to other factors being resolved.
But at its peak inflation was very high; even if we accept that all of it was caused by supply shocks and stimulus overhang, it still is likely to become entrenched. If the cost of your supplies suddenly goes up by 10%, you're going to raise prices as much as you think you can get away with, and you're going to keep them high as long as you can ... and certainly until you stop worrying about supply cost surprises.
And if you're claiming that as inflation went away, "The Fed has had almost nothing to do with it," you're essentially taking the position that the Fed could have done nothing with interest rates and inflation would have receded anyway.
If you believe that ...
Well, classical analysis says that price rises are constrained by competition, assuming a competitive market. And keeping prices high (but stable) is not inflationary.
So Team Transitory wins! For the record, transitory meant that it was temporal factors not that inflation would subside in a NY minute. Here is something interesting, depending on how you look at some numbers and some sectors, we may well be in a partial deflationary environment. If this expands, we will indeed get a recession. The Fed ought to consider cutting rates not raising them.
Joey you wrote that KDs comment that economists believe it takes 1 year for increased rates to have an impact on inflation is patently false. What’s your source? From what I have seen, there does seem to be a consensus that the full effects of rates hikes take about a year. I think it takes less but I don’t see how KDs comment is “patently false”. You see when you write something that’s is of dubious credibility you also undermine your other arguments as one does not know what to believe. Will you retract the “patently false” statement?
Just seeing this comment now.
It is simply not the case that the general consensus of economists is that it takes a year for interest rates to work through the economy and affect inflation.
Many economists believe that it takes time for the FULL impact of interest rates changes to be felt, and that we continue to see impact of changes in interests over many months after the last rate hike by the Fed. But Kevin has interpreted this to mean that interest rates have NO effect for a year, and that is ridiculous.
Also, many economists have theorized that the historical record we have on how long it takes for interest rates to impact the economy may not reflect the current state of practice from the Fed, as well as the current rapid pace at which the market moves due to information technology.
I will not retract my statement. It is false to say that the general consensus of economists is that it takes a year for interest rates to work through the economy and affect inflation.
In Kevin's chart, CPI y/o/y is over 8% from less than 2% over an eighteen month period.
That's time to panic, unless you hold real assets. Low income people do not have real assets and their wealth, such as it is, is in cash - which declined in value by around 10%. That's a big hurt.
Damn right the Fed clamped down. Good thing they did. Note that Kevin's concerns include home ownership, which is for people in a better economic situation. I'm sure there was a slow-down in Rolex wristwatch sales as well. Who the hell cares?
Overlay of different components of CPI, S&P/Case-Shiller, and the effective Fed rate. The indices are quarterly average of the change in the indices, which is a means of smoothing out monthly fluctuations w/o losing too much of recent trends.
It's not apparent that there's a strong link between the different measures of inflation and the Fed effective rate. In fact, there was disinflationary pressure for components of CPI before the Feds began their rate escalation. But the fact that housing prices have been going up this year despite Fed action pretty much refutes any claims that high mortgage interest rates are denting inflation.
But if we go back to the topic of M2 (real) money stock, I believe what we're observing is the combination of Federal stimulus and the Fed Bank's balance sheet.
And so, when you overlay (not perfect, but close enough for this purpose) CPI and M2 (real) money stock, you get similar curves.