Powell: What An Über-Dove Looks Like

Hallelujah Time at Jackson Hole

Federal Reserve Chairman Jerome Powell used his speech yesterday at Jackson Hole, Wyoming to pat himself on the back for bringing US inflation down without a concomitant recession. The second major takeaway from his talk was that there would be no more shedding of figurative tears empathizing with the pain suffered by low- and middle-income earners from persistent high inflation rates. Henceforth, the focus would be almost exclusively on protecting jobs. Equities surged and Treasury yields plunged in response to the Powell talk.

Even though he did not provide a date for the start of the easing cycle, he left no doubt in listeners’ minds that the central bank would lower rates on September 18 at the conclusion of the next two-day meeting of the Federal Open Market Committee. In his words, “The time has come for policy to adjust. The direction of travel is clear, and the timing and pace of rate cuts will depend on incoming data, the evolving outlook, and the balance of risks.” No acknowledgement of the contradiction between the statement that the time for policy adjustment had arrived and, at the same time, indicating that the timing of the rate cut would depend on incoming data.

As with past instances when the Chairman has declared victory in combating inflation, this celebration could prove to be premature. Last week’s SriKonomics outlined some of the risks to inflation that lie ahead. One of those is rising home prices pushing potential buyers into the rental market. It is important to remember that the cost of a house is not part of the Consumer Price Index but that shelter (rent) is a major component of the overall price measure.

According to data released by the National Association of Realtors on Thursday, home prices advanced for the 13th consecutive month in July. Although lower mortgage rates resulting from a cut in the policy rate would bring more home buyers into the market, the rate reduction is also likely to provide ammunition for further increases in prices. In other words, just one or two 25 basis-point rate cuts may reduce home affordability rather than enhance it. Expect the pressure on overall inflation from rents to persist.

A second risk is that investors have realized — if they had not done so already — that a market tantrum similar to that which occurred on August 5 could be used to get the Fed to do their bidding. SriKonomics of August 10 suggested that if a 25bp cut appears to be a certainty, markets could switch to anticipating even larger cuts. This seems to be already occurring. Following the Powell speech yesterday, CNBC’s Jeff Cox writes that markets have raised their anticipation of a 50bp reduction next month.

A third factor that could rain on Powell’s parade are developments on the global scene. Supply side bottlenecks that he blamed in 2021 for “transitory” inflation could return in case of further increases in shipping cost resulting from conflicts in the Middle East. Oil prices are vulnerable to developments in the region, and any destruction of production capacity could have an immediate, and sizable, impact on energy cost. The recent amelioration in US inflation was a result partly of lower retail prices for gasoline.

Could Powell have handled his Jackson Hole presentation better? Certainly. One way would have been to end “Forward Guidance.” The practice, championed by then-Chairman Ben Bernanke post-2008, has turned out to be a euphemism rather than be helpful. This is because actual policy measures have often turned out to be very different from those that the Fed had suggested. Rallies, such as yesterday’s, resulting from Powell’s pronouncements will also make it more difficult to achieve the central bank’s targets.

I conclude with an assessment of how good the Chairman’s forecast of inflation has been. In his speech yesterday, he defended his belief that post-covid inflation would be transitory by suggesting that he had had a lot of company in that expectation. “The good ship Transitory was a crowded one,” he said. Unfortunately, Powell appears not to have received advice from the right sources. In SriKonomics as long ago as April 2021, I went against market consensus in explaining why inflation and long-dated bond yields would surge — persistently high fiscal deficit and complacency on the part of the Fed. Expansionary policy, rather than supply bottlenecks, was the main culprit

Powell occupies an enviable position at the Fed. Being the Chairman means never having to admit error or say sorry!

Dr. Komal Sri-Kumar

President

Sri-Kumar Global Strategies, Inc.

Santa Monica, California

srikumar@srikumarglobal.com

@SriKGlobal

August 24, 2024

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