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The Fed Is In a Bad Place.

I've never been a Fed Basher. That's practically a job description. There are people who have made lucrative media careers out of criticizing the central bank, even when the economy was humming and they kept growth on an even keel. But people have made such a business out of complaining. Resentment generates clicks, which generates media attention, which generates books and "think pieces."

Now, there is a torrent of concern about inflation. But having lived through the 70s, this current bout of inflation is contained around a few hot areas, chiefly housing and energy, that monetary policy cannot fix, and the majority of Americans aren't even critically affected by, especially if they're still living in a dwelling with a fixed rate mortgage. People can also learn to be less profligate with their energy use.

Moreover, as Chairman Powell acknowledged in an interview with Kai Ryssdal, "we can't affect supply with our policies." If this is indeed the case, it doesn't seem to make sense from a policy standpoint to stifle demand, which is solid but not overwhelming, to such a degree that markets and employment prospects have to be disrupted so.

It seems the Fed is enacting a policy in which is seeks to curtail demand to such an outsized degree that the supply constraint issue will be dealt with as the byproduct of heavy handed monetary policy.

I think this is madness.

It can also blow up in their faces. As mentioned, housing is the 2000 pound gorilla of CPI, making up around 30% of the index as it is weighted. So successive rate rises have curtailed home price growth for now. But some have noted that higher interest rates could serve to stall construction of badly needed housing, exacerbating the shortage of the highest weighted component of the CPI Index. So while raising mortgage rates have certainly slowed down housing price growth, if not reduced them in some areas, the reduction in future supply will not alleviate the situation.

Now some of this is macro and some micro. A mad dash of outmigration due to COVID generated some housing hot spots which spiked the numbers. New York City can lose 100,000 residents and not even realize it. If Tampa-St. Pete gains 100,000 residents, that changes housing market dynamics there entirely. Again, these events as well as the disruption in housing from the work from home phenomenon, are unrelated to monetary policy.

Unfortunately, we are now in a position where if the housing component, by itself, doesn't get deflated sufficiently, then the headline CPI number the media fixates on as a proxy for the price of EVERYTHING ELSE from chicken wings to pet supplies won't shrink, and Fed policy will then be seen as an abject failure.

Cue in the bile merchants in the cheap seats bellowing about the Fed's "credibility."

So I believe Fed policy, as it stands now (September 29, 2022) is way too aggressive, especially with several Fed governors warning a lot more is to come. As I've written before, the Fed does not want the "whack a mole" inflation environment that took five years to contain back in the 1970s. But this is a wholly different economy from that one, when China was still a primitive backwater, and the only truly powerful Asian economy was Japan.

It's a different world now. I do hope the Fed's generals are not fighting the last battle. (9/29/2022)


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