There were few surprises in yesterday’s release of the May data on Personal Consumption Expenditure price index by the US Bureau of Economic Analysis. Publication of the Consumer Price and Producer Price Indexes earlier in June had already suggested that the PCE numbers would be benign because of the components of the CPI and PPI that feed into it. PCE prices were flat in May from April, slowing from the 0.3% rise posted the previous month. The year-over-year gain slowed from 2.7% in April to 2.6% in May.
Yet, we had a senior Federal Reserve official tell us last week that it was not time to cut rates yet, and that she would be prepared to hike rates if necessary. Having taken note of the improvement in the CPI and PPI, and awaiting better figures on the PCE, Governor Michelle Bowman warned about upside risks to inflation in a speech she made in London on Tuesday. Her notes of caution were based on several considerations that have been repeatedly outlined in past issues of SriKonomics.
Specifically, Bowman said that in addition to supply constraints during covid pushing up prices, “aggregate demand was also supported by accommodative monetary and fiscal policies. [They] served to bolster the balance sheets of households, businesses, and local governments, and contributed to very tight labor markets.” She blamed the delay in removal of monetary policy accommodation in 2021 for continued inflationary pressures. She referred to the loosening of financial conditions and additional fiscal stimulus as likely sources of higher inflation.
All music to my ears!
But that was not all. In contrast to her Chairman suggesting at press conferences more than once that the next move by the Federal Open Market Committee is unlikely to be an increase in interest rates, Bowman asserted in her talk, “I remain willing to raise [italics mine] the target range for the federal funds rate at a future meeting should progress on inflation stall or even reverse.” Ouch!
One reason for a potential reversal in the progress on inflation, outlined in last week’s SriKonomics, is the contribution that shelter (rent) makes to overall inflation, and the likelihood that record home prices will give rise to more renters and larger rent increases. Second, while the prevalence of the current high 5.25 - 5.50% federal funds rate has helped slow the rise in goods prices, inflation in services is elevated.
A third prompt for caution on interest rate policy is brought out in yesterday’s PCE numbers. Disposable personal income rose by a strong 0.5% month-on-month in May, accelerating from the 0.3% pace in April. Personal consumption expenditures rose by 0.2%, also accelerating from the rise posted the previous month. These figures show that there is still a lot of spending power in the economy that is not consistent with urgency to lower interest rates.
Back to the FOMC. If sensible thinkers such as Michelle Bowman exist within the FOMC, why have we experienced a yo-yo monetary policy vacillating between expecting “transitory” inflation and reacting to it being more long-lasting? between suggesting impending rate cuts and subsequently indicating that inflation has become sustained? signaling that a rate increase is unlikely, something that only increases speculative fervor and prolongs tight policy?
Hard to say what actually happens within the confines of Federal Reserve discussions. But one educated guess is that the Chairman hopes to signal the existence of a “consensus” within the FOMC to demonstrate his leadership even when a consensus does not exist. As Powell has turned out to be frequently wrong with his “Forward Guidance”, individual members feel free to express dissent in public rather than go on the record with their disagreement in Federal Reserve minutes.
Such a decision-making process, not surprisingly, is ineffective and has given rise to the volatility in bond yields that we have seen over the past several months.
Dr. Komal Sri-Kumar
President
Sri-Kumar Global Strategies, Inc.
Santa Monica, California
srikumar@srikumarglobal.com
@SriKGlobal
June 29, 2024
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