Fed's Outlook? Confused!
The last SriKonomics piece discussed a regional Fed President publicly disagreeing with Jerome Powell just two days after the Fed Chair said April 28 that interest rates would remain low indefinitely. The discord over policy got louder last week. Treasury Secretary Janet Yellen suggested Tuesday that rates may have to rise soon before she reversed herself — on the same day — to say that she was not predicting higher rates.
Yellen’s first comment was met by criticism by some analysts that a Treasury Secretary should not comment on interest rates. That way, she could maintain the independence of the Federal Reserve from political influence. I believe this objection makes no sense. Should the US Treasury make its decisions solely on spending and the deficit without concern for the cost of servicing the obligations?
Also, recall that Powell has repeatedly called for continued fiscal stimulus. For example, here he refers to the need for continued support for those “relying on extensive in-person contact” during the pandemic. He was no more wading into fiscal policy than Yellen was interfering in monetary policy by suggesting the need for higher rates.
No, it is not the independence of the Fed that is in question here. It is a case of senior officials providing markets with contradictory guidance affecting the functioning of free markets. Economist Yellen, opining on why the Fed may have to raise rates — a very reasonable statement — found that markets reacted negatively to her view, forcing Politician Yellen to state that that was not what she meant at all.
The Fed’s own Financial Stability Report, published Thursday, also suggested that asset prices are excessively high and run the risk of a significant decline. The report was led by Governor Lael Brainard, one of Powell’s colleagues in setting policy. Elevated asset prices increase the risk to the financial system, according to the report. Contrast this with the Chairman’s view that asset valuations are justified by the prevalence of low interest rates.
Even the disappointing April jobs report released yesterday does not justify Powell’s dovish stance. The $900 billion stimulus that flowed in the final weeks of the Trump administration, and the $1.9 trillion that incoming officials added to the pile, will eventually push consumer price inflation well beyond the central bank’s 2% target. Recall that most stimulus has not yet been spent and, when that does happen, would encounter production still hobbled by shortages.
Also, prices of the three “C”s that I watch closely — copper, crude and corn — have surged suggesting the presence of inflation in three major areas: industrial production, energy and farm products. When the Fed eventually decides that the pickup in inflation is no longer “transitory” but has long-term staying power, it may require significant monetary tightening to achieve economic stabilization.
Powell seems boxed in by his repeated statements that policy will remain indefinitely easy for fear that suggesting a taper or higher rates could tank the markets. He may be able to limit the long-term damage to the economy by listening closely to the Economist Yellen and Brainard views.
Komal Sri-Kumar
President
Sri-Kumar Global Strategies, Inc.
Santa Monica, California
May 8, 2021
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