What Mayhem Looks Like

Powell Gets Ready to assume Arthur Burns' Mantle

The past week was like none other.

On the economic front, more surveys indicated that consumer confidence has plunged with respondents concerned about both a significant increase in inflation and the onset of recession. Symbolic of the deterioration in expectations, the final estimate for March for the University of Michigan Consumer Sentiment Index plunged by 12% from February due to growing expectation of rising inflation. Consistent with such concerns, we learned yesterday that the core PCE price index (which excludes food and energy), the Federal Reserve’s favorite measure, rose by 0.4% month-on-month in February, faster than expected, and the biggest monthly increase since January 2024.

Adding to consumer pessimism, President Donald Trump announced that a 25% tariff on automobiles and parts would be applied starting next Wednesday. No country will get a reprieve from this levy. And if a country were to respond with a retaliatory tariff, the President has warned, he will raise the tariff even more against that exporter. Since an automobile is but a compendium of hundreds of parts imported from a number of countries, the proposed tariff will have a broad-based impact on a variety of commodities and a range of countries.

Trump has suggested that these levies are just a temporary pain needed to level the playing field with a number of exporting countries that have taken unfair advantage of the openness of the US economy. Irrespective of the validity of that claim, tit-for-tat tariff measures have a history of not ending well, with the prime case being the aftermath of the Smoot-Hawley Tariff Act of June 1930.

Market concern over last week’s developments — the concomitance of new tariffs, the pickup in inflation and the fall in consumer sentiment — is that they could lead to stagflation. This is the extremely rare economic phenomenon when a recession does not slow price increases but, instead, coexists with them. The reason is that the good or goods in short supply are essentials with no effective substitutes. In the 1970s, it was the quadrupling of the price of crude oil that was the major factor behind stagflation. Now, it is the fear that sharp increases in a variety of commodities could lead to the same result.

Equities reacted to the wave of bad news with a massive selloff. The S&P 500 index fell by almost 2% yesterday alone, and the NASDAQ declined by 2.6%. As panicked investors sought refuge in US Treasurys, the yield on 10-year securities dove by 12 basis points on Friday. The bond market’s response is the first reaction to the rising probability of a recession. If it looks increasingly likely that the inflation rate will also increase, expect bonds to join in the equity selloff and for Treasury yields to post increases.

How has the Fed responded to the major economic developments? Rather than demonstrate their comprehension of the immensity of forces that are having an impact at the same time, members of the Federal Open Market Committee described the inflationary impact of tariffs as temporary. For example, Raphael Bostic, President of the Federal Reserve Bank of Atlanta, explained that he expects only one reduction in the Federal Funds rate this year compared with the two cuts implied in the latest FOMC dot plot. Or, using the term that Chairman Powell made famous in 2020 - 2021, the FOMC believes that any pickup in inflation would be “transitory.” How do they know? They do not.

However, for the Fed to concede that tariffs would provoke retaliation from trade partners, prompting a secondary and tertiary sequence of price increases, would have required a stronger response from the Fed — such as a hike in interest rates. Such a move — or even a FOMC member discussing the possibility of higher interest rates — would definitely give rise to an angry response from the President and public criticism. And no Fed official, angling for Powell’s job when his Chairmanship ends in May 2026, or looking for a position in the private sector, wants that! That is why they keep repeating that they are uniquely focused on their twin mandate.

Outcome? Expect Treasury yields to rise even as the economy weakens. Powell must be saying, “Chairman Arthur Burns, I am ready to assume your mantle!”

Dr. Komal Sri-Kumar

President, Sri-Kumar Global Strategies, Inc.

Santa Monica, California

srikumar@srikumarglobal.com

@SriKGlobal

March 29, 2025

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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