Inflation: Fed Remains Sanguine
Another week and another set of high inflation numbers. But nothing has changed with the Fed’s “transitory” mantra!
Even as more colleagues expressed their preference for raising interest rates as early as 2022, Chairman Jerome Powell told a House Subcommittee on Tuesday that he still believed that “a pretty substantial part, or perhaps all, of the overshoot in inflation comes from categories that are directly affected by the reopening of the economy.” A few days after his testimony, the central bank’s favorite inflation gauge showed that prices had increased at their fastest pace since 2009.
Problem with the Powell approach? Sustained higher inflation does not ring a bell to announce its arrival. Already, there are signs that faster price increases which first affected goods sectors hit by lockdowns are spreading to services where personnel have started demanding wage and price increases to maintain purchasing power. And history has shown inflation to become more difficult to control as it rises to a high level, and when price increases are viewed as longer-lasting.
Of course, workers or producers will not get the wage or price increase they demand in the absence of supporting factors. And there are two forces making for a wider transmission of price rises. First are supportive economic measures that provide the necessary oxygen to keep inflation going.
On the fiscal side, $900 billion in benefit payments in the final days of the Trump administration have been followed by another $1.9 trillion authorized as early acts of the Biden team. On the monetary front, $120 billion in monthly bond purchases since March 2020 pushed the Fed’s balance sheet above the $8 trillion-mark for the first time in mid-June. This is ten times the level on Lehman Day (September 15, 2008), and 93% higher than at the end of 2019.
The second factor that suggests price increases may be sustained is a mismatch of supply and demand in the labor market. The JOLTS report for May showed 9.8 million job openings, the highest since 2000, almost matching the number of people who lost jobs due to covid. Growth in the Fed balance sheet will not create skilled workers to fill the spots! The remedy, viz., training workers for jobs in greater demand, has not received priority in a program focused on spending and money growth.
Quelling inflation with a faster increase in interest rates could prevent a sharper contraction in the economy if the tightening has to be implemented at a later date. Of course, the cost of raising rates sooner would be a sharp fall in equities, and preventing such a development appears to be a major objective of monetary policy.
Instead of the Fed hoping for the best and changing little, controlling inflation ought to be a political and social priority. Price increases tend to disproportionately affect those at lower income and skill levels because they do not own equities or real assets to offer protection. Rather than put the pedal to the metal on monetary expansion, policymakers need to be concerned about how their sanguine approach could worsen income inequality and increase social tensions.
Complicating the fight against inflation is the political calendar. Powell’s term as Chairman ends next January 31, and President Biden has to decide whether to renominate him, or name a successor.
The Federal Reserve operates free of political intervention, did you say?
Komal Sri-Kumar
President, Sri-Kumar Global Strategies, Inc.
Santa Monica, California 90401
June 26, 2021
Sri-Kumar Global Strategies, Inc. advises multinational investors and sovereign wealth funds on global risk and opportunities. Dr. Sri-Kumar is regularly featured on business TV and Radio media, and is a frequent speaker in global financial centers on major topics that affect markets and investments.
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