“We understand inflation dynamics evolve constantly over time but they don’t change rapidly,” Jerome Powell said Wednesday, during his first post-FOMC press conference of 2021.
In the unlikely event warnings about the rapid onset of inflation due to policy largesse were to prove even a semblance of accurate, that soundbite could live in infamy.
Everyone apprised of the general macro narrative can list the structural deflationary forces at work across the developed world. And it’s no secret that the Phillips curve has been busy doing its best Norwegian Blue impression, leading directly to calls for a rethink of the way the Fed conceptualizes “full employment.” Finally, it’s obviously the case that the pandemic was a deflationary supernova in the early stages, and is likely to remain so in many respects going forward.
Powell reiterated all of that Wednesday, while fending off questions about a possible upside surprise in inflation that catches the Fed flat-footed.
Some of the financial world’s biggest names have warned recently that the risk of higher inflation is perhaps larger than the Fed believes. Paul Singer, for example, spent quite a bit of time discussing the matter on a recent podcast.
Read more: Paul Singer Warns On Possibility Of ‘Tremendous’ Inflation ‘Surprise’
“We know what to do with higher inflation — if the need should arise, we have those tools,” Powell said.
Critics surely rolled their eyes, if they didn’t outright laugh.
Those who, like Singer, believe the Fed is underestimating the risk of a pickup in price pressures, generally contend that policymakers would have trouble containing it, inflation being a self-fulfilling dynamic and such.
“I think there’s a really good chance given the determination to spend trillions more on stimulus… of a tremendous surprise,” Singer said last week. The prospect of CPI inflation moving higher and “keeping on going” would be a “stunning development for central bankers,” he cautioned.
Powell on Wednesday reiterated that worrying about an inflationary spiral is premature considering the Fed hasn’t even demonstrated the capacity to hit its own target over a sustainable period of time.
“The way to achieve credibility is to actually do it,” he said, commenting on the notion of engineering an inflation overshoot to compensate for previous shortfalls. “We have not adopted a formula,” he added, referencing market queries on what, exactly, the Fed’s average inflation targeting framework entails. “We’re not going to adopt a formula. We’re going to preserve an element of judgement.”
Over the course of the proceedings, Powell appeared to become at least a bit irritated with questions around a possible exit from accommodation. “The whole focus on exit is premature,” he said. “We’re focused on finishing the job we’re doing,” he snapped, after Bloomberg’s Michael McKee pressed him on whether the Fed was “trapped” in a perpetually accommodative stance.
In yet another somewhat dubious remark, Powell claimed that his ill-fated effort to normalize policy in 2018 was somehow proof that an exit is, in fact, possible. “We raised rates. We froze the balance sheet size. We can do it again,” he insisted.
With all due respect (and I mean that sincerely), 2018 proved the opposite of that. Yes, Powell kept raising rates. And yes, he tried to normalize the balance sheet. But it went awry in fairly spectacular fashion. As it turns out, the market’s threshold for policy tightening from the Fed was about 1% on real yields. Past that, things get dicey in a hurry.
Read more: Fed Points To Waning Momentum In Virus-Blighted US Economy
Another amusing moment came when Powell was asked if he’d spoken to Janet Yellen since she took over at Treasury. Obviously, the market expects broad-based cooperation between the two, and I’ve variously suggested that Yellen is now de facto Fed Chair.
“We know to stay in our lanes. We know we have different authorities,” he said, of the Fed and Treasury. “I haven’t spoke to Secretary Yellen,” Powell remarked, emphasizing “Secretary” and noting that “I’m going to be calling her ‘Chair’ Yellen, so you just have to pardon me.”
Old habits die hard, I suppose.
During another exchange, Powell said that the “troubling inflation that people like me grew up with seems far away and unlikely.”
Famous last words?
Raising rates AND normalizing balance sheet in tandem may have been the mistake of 2018. He had a loud Trumpet in his ear also. Value investors at that time were becoming happy about it.
Inflation is a slippery concept indeed. We need inflation in the right places- travel and leisure, oil&gas, commercial real estate rents especially office buildings and malls, selected commodities, apparel (except for sweat pants), gym membership prices, restaurant prices, residential rental prices in downtown areas of cities…. there are many more. Right now the market basket for all the above items is low and their prices are in the basement. So if prices and unit volumes picked up in these downtrodden industries/assets – driving the general level of prices up, that would not be a problem. In fact that would be terrific. It would also be a short term phenomenom, unless monetary policy and fiscal policy did not adjust. You can bet that Powell would be delighted to end Q/E and normalize rates under such circumstances. And Yellen would be happy to taper fiscal stimulus as well. Would the stock market and residential sfh market be happy – well stock sectors would rotate, likely you would see a big relative adjustment but the market might be ok or better. You would probably see overall a P/E compression, and big cap tech- ughh. Residential real estate likely would stagnate for awhile- not such a bad thing either. If you told me we would see that type of pick up in inflation my reaction would be HURRAH.