The Fed Prepares To Play Catch-Up

When asked whether he was concerned that Billy Conn, a faster, shiftier opponent might relieve him of his heavyweight crown, the great Joe Louis is said to have responded, “He can run, but he can’t hide.” Louis knocked Conn out in the 12th round of their 15 round title fight.

Inflation Will Hit You, One Way Or Another

Inflation is rather like that. You can run to products that seem still to have reasonable prices, but you can’t hide from inflation. The price of your hamburger might not have changed, but it will be smaller. That hotel room rate might not be up, but there will be no housekeeping service and free airport pickups will have joined free soda refills as relics of days when inflation was tame. To land the car of your choice, you might have to pay for over-priced features you neither need nor want. Try to beat rising new car prices by buying a used car, and discover that the used vehicle is selling for more than it did when new. Then there is what the trade calls shrink-outs, reducing the weight of pre-packed food items.

The Facts, Or Some Of Them

The Fed says it is data-driven. Here are the data with which it is working. Consumer prices are rising at an annual rate of 7.5 percent, the hottest in 40 years. Price rises are ubiquitous: they are on the rise for energy, used cars, apparel, furniture, appliances, food and shelter. Producer prices, the pipeline of stuff that is headed towards stores, are rising even faster, at a 9.7 percent rate, indicating that there is no relief in sight. Farmers, faced with higher prices for seed, fertilizer, equipment (recall the Deere settlement with its unions guaranteeing that wages would spiral upward with the CPI), and other inputs, say they plan to raise their prices, which will push prices in groceries still higher.

Nor is it likely that consumers will help Jay Powell & Co. by zipping their wallets and purses, at least in the near term. After easing in December, retail sales rose 3.8 percent in January, the most in ten months. Sales clocked in at 13 percent above year-earlier levels. Brian Moynihan, CEO of Bank of America, says customers still have large amounts in their accounts. Matthew Boss, retail analyst at JPMorgan Chase, reports that charges to the bank’s credit cards rose by 8 percent over the holiday season, and have been used at an accelerating rate so far this month. Steve Liesman, CNBC’s Fed-watcher-in-chief tells audiences consumers are hitting the malls and department stores, and also clicking on “buy” on their computers.

The Fed Wakes From A Transitory Nap

“We’re pretty far behind the curve. That’s not where we want to be,” says Eric Rosengren, recently retired president of the Boston Fed. To say that the Fed is behind the curve is to dress a monetary policy failure in the deceptively anodyne jargon of policymakers. America is a nation in which inflation is at a 40-year high, the benchmark interest rate of the Federal Reserve Board is in negative territory, and the Bank is continuing its purchases of Treasury bonds and mortgage-backed securities.

That criticism might seem unkind. After all, the Fed’s monetary policy committee has indicated it will begin raising interest rates at its next meeting on March 15-16.  But it is relevant to any decision as to whether the Bank has the competence to engineer that tightening without triggering a major recession. After all, not even the sainted Paul Volcker could manage to avoid that typical Fed experience.

The Fed monetary policy gurus will now have to choose between the slight quarter-point tap on the brakes that was being mooted a few weeks ago, and a half-point jam on the brakes as part of a full-point rise by July, as James Bullard, president of the St. Louis Fed is calling for, although he is not joining William Dudley, forerly his counterpart at the New York Fed, in calling for rises to the 3-4 percent range that Dudley, expects will be necessary to wring inflation out of the system.

They will also have to decide what to do about the Fed’s balance sheet, which has doubled to $9 trillion since March 2020. They could allow it to shrink slowly by failing to replace assets that mature, or hasten the shrinkage by selling off some of those holdings.

Things The Fed Cannot Control

It is only fair to point out three problems not of the Fed’s own making that will bedevil its ruminations. The first is a problem of long standing: imperfect data, subject to major revisions. Job creation looks weak – until major revisions are made to months-old data. Retail sales weaken, but only temporarily, before rising sharply. The number of Covid infections falls, only to be rise as a new more transmittable variant takes hold.

Second, there is no roadmap to guide a Fed steering the economy out of a pandemic-induced shut down of the economy. It is not easy to predict whether wage increases will draw back into the labor market women who have been forced to choose between returning to the work force or remaining at home to tend to children unable to attend closed schools, workers who retired early in response to new-found affluence from rising home and share values, and those who think departing the rat-race for a lifestyle that will make them happy. Or whether the recent easing of the Covid-induced lockdown in Viet Nam will ease pressure on apparel prices,

Finally, supply-side bottlenecks are largely beyond the reach of Fed policymakers. No change in interest rates is likely to enable a ship floating off Los Angeles to find a berth, or end a shortage of semiconductors; only long-term investment in port and foundry facilities can do that. Worse: some in the shipping business say the present logjam is a new normal, that the era of cheap and reliable shipping has ended, and shortened supply lines are in many firms’ futures. Nor can the Fed do anything to persuade truckers to return to the life that late they led, to borrow a phrase from Cole Porter, but have since foresworn.

Then there is the ticking time bomb of a President in negotiations with his own party to win backing for another trillion or so in spending on top of the $1.2 trillion, eight-year rollout of infrastructure spending already scheduled.

Wither The Fed? A Guess

My guess is that Powell will start with a quarter-point dose of tightening, to be administered after each of eight Fed committee meetings, and increase the dosage when the inflation genie refuses to return to the bottle, as I am close to certain it will. The operative words are “guess” and “close to”.