Fed Officials Project Three Rate Increases Next Year Most Federal Reserve officials signaled they were prepared to raise their short-term benchmark rate at least three times next year to cool high inflation. They also approved plans to more quickly scale back pandemic stimulus efforts, opening the door to rate increases starting next spring.
(…) They approved plans that will more quickly scale back their Covid-19 pandemic stimulus efforts, ending a program of asset purchases by March instead of June. That opens the door for them to start raising rates at their second scheduled meeting next year, in mid-March. (…)
“There’s a real risk now, I believe, that inflation may be more persistent and…the risk of higher inflation becoming entrenched has increased,” said Mr. Powell at a news conference Wednesday afternoon. “That’s part of the reason behind our move today, is to put ourselves in a position to be able to deal with that risk.” (…)
“We’re making rapid progress toward maximum employment,” he said. (…)
In economic projections released Wednesday, most Fed officials project core inflation to reach 4.4% at the end of this year before declining to 2.7% next year and 2.1% by the end of 2024. That is up from projections in September that inflation would slow from 3.7% to 2.3% at the end of next year. (…)
When the pandemic hit, it “looked at the beginning like it might cause a global depression, and so we threw a lot of support at it,” Mr. Powell said. “What’s coming out now is really strong growth, really strong demand, high incomes…. People will judge in 25 years whether we overdid it or not, but we are where we are.” (…)
So how strong is the U.S. economy?
- Excluding inventory accumulation, real final demand is not back on its most recent trend, itself slower than previous ones:
- Powell said that “The labor market is by so many measures hotter than it ever ran in the last expansion.” But, by one important measure, employment is well below its pre-pandemic level:
- The proportion of the population working is also well below its pre-pandemic and previous pre-recession levels:
- Monthly job gains are erratic, rather low on average since September 2020 and trending down since the summer:
One could easily qualify the economy as rather weak, not “really strong” as Powell says: areas of strength are goods demand from expired stimulus money and inventory accumulation to protect against shortages and price increases.
Gary Shilling talked about “a false picture of underlying demand”, warning that it may “soon become apparent if consumers’ pre-buying and heavy inventories collide.”
It so happened that yesterday saw the release of November retail sales:
U.S. Retail Sales Trail Forecast, Suggesting Drag From Inflation
The value of overall retail purchases increased 0.3%, the smallest advance in four months after a revised 1.8% gain in October, Commerce Department figures showed Wednesday. Excluding gas and motor vehicles, sales climbed 0.2% in November. The figures aren’t adjusted for inflation. (…)
The softer-than-expected report may also reflect the pulling forward of holiday sales as many Americans, aware of supply-chain slowdowns, shopped earlier than usual. In October, the sales increase was the strongest in seven months. (…)
Five of the 13 retail categories showed declines in receipts last month, led by a drop at electronics and appliances merchants. Sales at non-store retailers, which includes e-commerce, were little changed in November.
Rising prices could be driving some of the increases in categories like gasoline stations and grocery stores. Receipts at restaurants and bars, the lone services-oriented category in the data, climbed 1%.
So-called control group sales — which are used to calculate gross domestic product and exclude food services, auto dealers, building materials stores and gasoline stations — fell 0.1% in November from a month earlier.
Real retail sales actually declined 0.5% in November after rising 0.8% in October and 0.3% in September. Last 3 months: +2.4% annualized, not bad but not “really strong”, especially if there actually was some pre-buying as Shilling (and I) have warned.
In effect, real retail sales (goods demand) peaked last March and are down 2.5% since. They remain 12.9% above their pre-pandemic level and 8% above trend. By comparison, gradually recovering real expenditures on services are 1.3% below their pre-pandemic level and 5% below trend.
ING illustrates how Americans have used their extraordinary rescue money along with super easy credit conditions to splurge on goods:
US versus eurozone retail sales performance
Mr. Powell never mentioned the possibility of this Shilling’s scenario materializing:
I suspect that Christmas sales during December may disappoint, forcing heaving discounting and inventory liquidations early in the new year. At the same time, all that floating inventory from China and other Asian countries will arrive, exacerbating the overhang. Also, many hidden inventories may be revealed, adding further to supplies. Economic softness in early 2022 could be exacerbated by the renewed spread of Covid-19. (…)
I’m not forecasting a 2022 recession — yet — but excessive inventories are a warning. Huge inventory build-ups that precipitated gigantic cuts in production resulted in the serious recession after World War I and in the early 1970s.
Listening to Powell’s presser, I got the impression that he was justifying, actually selling, the Fed’s new early tightening program, often using rising inflation as the proof for solid demand. That holds for many goods categories, but for some others (e.g. cars, cell phones), for housing, for many services and for wages, the problem is supply.
Mr. Powell also said that there were no indications that higher wages were contributing to inflation. This Haver Analytics chart, and most corporate surveys, suggest otherwise:
The Atlanta Fed yesterday released its Business Expectations survey with these charts. Note that unit costs keep rising in spite of flattening non-labor costs pressures and that inflation expectations have reached 3.4% from 3.0% just a few months ago. Labor costs are pushing unit costs up, inciting biz people to raise prices to protect margins.
We also know that wage pressures have been strongest among the lower salary rungs (services, minimum wages), pressuring smaller businesses much more than larger ones. Here’s how they plan to react per the latest NFIB survey (courtesy of ING):
Labor is the primary input to most of what consumers buy, in particular services. A key factor in Mr. Powell’s pivot was a report that hourly wage costs surged at about a 6% annual rate in the third quarter. That sort of labor cost growth would only be compatible with the Fed’s 2% inflation target if worker productivity grew 4% a year, roughly twice its historical rate. As it is, productivity actually declined in the year through September. (WSJ’s Greg Ip)
The fact that lower salary rungs are rising faster than others is a warning that the whole comp scale will likely rise in coming quarters, pushed up from the bottom like normally happens.
Mr. Powell often referred to the ECI as a measure of labor costs: total comp for private cos. has skyrocketed to 4.1% in Q3 with salaries at +4.6% from the 3% range pre-pandemic.
Meanwhile, corporate margins are near their all-time highs. Any more evidence needed that rising labor costs are feeding inflation?
Perhaps pressure will diminish if, as and when labor participation recovers but Mr. Powell listed a number of reasons explaining why it is not recovering, most reasons likely remaining in effect unless the economy and financial markets turn sour.
The Chase consumer card tracker through December 10 suggests that the last 2-3 weeks have been slower at retail:
Here’s the trend for the holiday shopping season. Not really strong:
“Transitory” is gone, unlike “stagflation”… But no worries, “Pivot Powell” is there.
BOE Surprises With First Hike in Crisis to Curb Inflation
The Bank of England unexpectedly raised interest rates for the first time since the pandemic struck, setting aside the threat to the U.K. economy posed by record coronavirus cases to become the highest profile central bank to take on surging inflation.
Officials led by Governor Andrew Bailey voted 8-1 to lift borrowing costs by 15 basis points to 0.25%, delivering an increase that no other Group of Seven central bank has made since the start of the crisis. Silvana Tenreyro was the sole dissenter. Policy makers said more “modest” tightening is likely to be needed as inflation heads toward a peak likely to be around 6% in April. (…)
“Another hike in February of 25 basis points is well in the cards,” said Fabrice Montagne, chief U.K. economist at Barclays. “If delivered, the MPC would also be in a position to start running down its balance sheet with bonds starting to mature out of its portfolio in early March.” (…)
The decision to move now is all the more remarkable since the country is in the grips of a new coronavirus wave driven by the more infectious omicron variant, which has pushed daily case loads in the U.K. to the highest recorded total since the pandemic began.
- France to block entry to UK tourists as Omicron surges Country will tighten border curbs from midnight on Friday to combat coronavirus variant
Here is what the ECB has just announced:
- The Pandemic Emergency Purchase Programme (PEPP) will be reduced in Q1 2022 and will definitely be ended by March 2022.
- The reinvestments from PEPP will continue until at least the end of 2024 and PEPP could be restarted at any time if deemed necessary by the ECB
- The ‘old’ Asset Purchase Programme (APP) will be increased from 20bn euro to 40bn euro in Q2 2022, reduced to 30bn euro in Q3 2022 and brought back to the current 20bn euro in Q4 2022
- All policy rates remain on hold
With today’s decision, the ECB has entered into a very cautious tapering process. This is less clear-cut than we had expected – the ECB chose to ensure the same level of PEPP flexibility in the asset purchases, including allowing it to purchase Greek bonds, and with a transition programme and not the reinvestment of PEPP purchases. Rate hikes are still far off. (…)
Canadian home prices rise 25% in November to hit record high
The national home price index, which adjusts for pricing volatility, rose 2.7 per cent to $790,600 from October to November on a seasonally adjusted basis, according to the Canadian Real Estate Association or CREA. That marks the second straight month of gains at that elevated level.
Compared with last November, the home price index (HPI) across the country is 25 per cent higher, a record year-over-year price jump. In Ontario, the HPI is up 30 per cent, with values soaring in the province’s most expensive region of Toronto. (…)
The pandemic’s real estate boom has been mostly driven by buyers seeking bigger properties in more affordable cities. That has propelled prices higher in smaller cities that have traditionally been unaccustomed to strong demand. (…)
Now, the Toronto region is seeing values jump significantly. In the Oakville-Milton area, just west of the city of Toronto, the typical price of a house reached $1,645,100 in November. That is $200,000 higher than in August, according to the HPI. In the Greater Toronto Area, the typical price of a single-family house was $1,403,800 last month, a $145,000 increase over August. (…)
China Price Inflation Close to 9-Year High in November Sales Managers Survey shows rampant inflation and a large fall in manufacturing activity.
- The Manufacturing Prices Index was close to a 9 year high in November.
- Business Confidence fell to 20-month low.
- Sales Growth Index to 18-month low.
- Profit Index at all-time survey low.
China Manufacturing: Headline Sales Managers Index
China Manufacturing: Prices Charged SMI
What happens when sales slow down while costs keep rising?
China Manufacturing: Profit Margins Index
Can the Santa rally start now?
After all, everybody has been well prepared and hedged for the downside risks…
(Bloomberg)
China’s massive housing glut grows
(Goldman Sachs via The Market Ear)
