A customer shops for groceries at a grocery store on March 12, 2024 in San Rafael, California.
Justin Sullivan | Getty Images News | Getty Images
The final inflation news that Federal Reserve officials will see before their policy meeting next week is in, and none of it is particularly good.
Overall, Commerce Department indexes, which the Fed relies on for inflation signals, showed prices continuing to rise at a rate still well above the central bank’s annual target of 2%, according to separate reports this week.
There are several points worth highlighting in this picture: The amount of money still flowing in the financial system gives consumers lasting purchasing power. In fact, buyers are spending more than they earn, a situation that is neither sustainable nor disinflationary. Ultimately, consumers are resorting to savings to finance these purchases, creating a precarious situation, if not now, then in the future.
All in all, the Fed is likely to be cautious and in no mood to start cutting rates any time soon.
“Just spending a lot of money creates demand, it creates incentives. With unemployment below 4%, it shouldn’t be surprising that prices aren’t falling, said Joseph LaVorgna, chief economist at SMBC Nikko Securities. “The spending figures are not going to decrease any time soon. So we could end up with a scenario of stubborn inflation.”
In fact, Bureau of Economic Analysis data released Friday suggests that spending outpaced income in March, as it has in three of the past four months, while the personal savings rate fell to 3.2%, the lowest level since October 2022.
At the same time, the personal consumption expenditures price index, the Fed’s key measure for determining inflation pressures, rose to 2.7% in March including all items and remained at 2.8% for the key core measure that excludes more volatile food and other energy prices.
A day earlier, the ministry reported that annualized inflation in the first quarter was 3.7% core and 3.4% on a headline basis. This came as real gross domestic product growth slowed to 1.6%, well below the consensus estimate.
Danger scenarios
The stubborn inflation data raised several ominous bugbears, namely that the Fed may have to keep interest rates high for longer than it or financial markets would like, jeopardizing the economy’s hoped-for soft landing.
There is an even more frightening danger: if inflation persists, central bankers may not only have to think about keeping interest rates at their current levels, but also consider future increases.
“Right now that means the Fed will not cut rates, and if they do [inflation] If rates don’t go down, the Fed will either have to raise rates at some point or keep rates higher for longer,” said LaVorgna, who was chief economist at the National Economic Council under former President Donald Trump. “Is this ultimately what gives us? hard landing?”
Today’s inflation problem in the US first appeared in 2022 and had several causes.
Early in the outbreak, problems were largely due to supply chain disruptions that Fed officials thought would disappear once shippers and manufacturers had a chance to catch up as pandemic restrictions were eased.
But even with the Covid economic crisis well in the rearview mirror, Congress and the Biden administration continue to spend generously, with the budget deficit at 6.2% of GDP at the end of 2023. That’s the highest non-Covid level since 2012 and a level generally associated with economic downturns rather than expansions.
In addition, a still buoyant labor market also helped keep wage pressures high, with the number of job vacancies at times outnumbering the number of available workers by two to one, with the ratio still at around 1.4 to one lies.
Even as demand shifts back from goods to services, inflation remains high, undermining the Fed’s efforts to curb demand.
Fed officials had expected inflation to ease this year as housing costs fell. While most economists still expect an influx of supply to drive down housing prices, other areas have also emerged.
For example, according to Mike Sanders, head of fixed income at Madison Investments, inflation in the non-residential PCE services core – a relatively new wrinkle in the inflation equation nicknamed the “supercore” – has been at an annual rate of 5.6% over the past three months.
Demand, which was expected to be dampened by the Fed’s rate hikes, remains robust, contributing to inflation and signaling that the central bank may not have as much power as it thinks to slow the pace of price increases.
“If inflation remains higher, the Fed will face the difficult decision of pushing the economy into recession, abandoning its soft landing scenario or tolerating inflation above 2%,” Sanders said. “For us, accepting higher inflation is the more sensible option.”
Fear of a hard landing
So far, the economy has managed to avoid broader damage from the inflation problem, although there are some notable cracks.
Loan defaults have reached their highest level in a decade, and worries are growing on Wall Street that more volatility is on the way.
Inflation expectations are also rising: The University of Michigan’s closely watched consumer sentiment survey shows one- and five-year inflation expectations at annual rates of 3.2% and 3%, respectively, the highest since November 2023.
None other than JPMorgan Chase CEO Jamie Dimon ranged this week from calling the U.S. economic boom “incredible” on Wednesday to a daily letter telling the Wall Street Journal that he fears the Total government spending will lead to inflation that is more persistent than what it is currently estimated.
“That’s driving a lot of this growth, and that may have other consequences down the road called inflation that may not go away the way people expect,” Dimon said. “So I look at the range of possible outcomes. You can experience a soft landing. I’m a little more worried that it might not be as gentle and inflation might not go quite the way people expect.”
Dimon estimated that markets are pricing in a 70% chance of a soft landing.
“I think it’s half,” he said.
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2024-04-26 21:00:09
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