“The Committee’s commitment to restoring price stability — which is necessary for sustaining a strong labor market — is unconditional.”
— Federal Reserve report to Congress, June 2022
“Don’t stop ‘till you get enough”
— Michael Jackson
It couldn’t be any clearer than this. Over the past several months the Fed has gone from hinting to telegraphing to shouting from the rooftops. They are aggressively targeting inflation and only inflation. The Fed ‘put’ that so many depend on is dead (at least while the inflation issue persists). They will not pause or reverse course to support the markets, economy or employment. Chairman Jay Powell won’t stop until he gets enough.
Getting inflation under control is of critical importance. High inflation is arguably the most destructive economic force. Inflation destroys lives, governments and societies. It is pervasive and relentless, and alters the fundamental structure of capitalism and human behaviour. Economies cease to function properly, living standards plummet and the risk of revolution rises.
Right now if you look down ‘Main Street’ USA, it looks like everything’s fine. The Fed raised rates by 75bps last week and everyone’s still shopping and eating at restaurants. Yet, the stock market continues to drop. What you must remember is that there are significant delays in the transmission of monetary policy. What might be immediately discounted in highly liquid public markets (stocks and bonds) takes months to show up in real economic data. By the time the average person knows we’re in a recession and changes their behaviour accordingly, the recession is probably close to over (from a technical point of view) and markets have likely bottomed.
Still, early indications show that change is happening and the real economy is starting to slow. Perhaps the biggest metric is initial jobless claims.
Initial claims bottomed on March 19th, 2022 and has risen ever since. It’s not yet flashing red sirens, but this is something to watch. The change in trend is subtle, but it’s there and that’s how recessions start.
Right now, layoffs are happening at the margins – the most vulnerable businesses that likely overextended hiring during the good times (e.g. Crypto, fintech).
Spending is also slowing at the margins. The most overextended consumers are cutting back, as rising homeownership costs and gas prices erode discretionary incomes.
Currently, it’s the weakest of the herd being picked off. Like every recession, however, this could soon spread.
How bad could the economy get? How long could this adjustment take? I don’t know. And anyone giving a confident answer is either lying or delusional. I follow the data and (especially after last Friday’s CPI print) it tells me 1) inflation remains out of control and 2) the weakest parts of the economy is quietly starting to slow.