Normality

Normality

Despite presiding over a massive expansion of the same experiment in ultra-accommodative monetary policy that was mercilessly derided by some pundits, market participants and armchair economists prior to his tenure as Chair, I think it’s fair to say that Jerome Powell has a better reputation among critics than his predecessors.

If that’s even a semblance of accurate, it’s not difficult to explain. While it’s exceedingly difficult to feel sorry for someone who’s both healthy (as far I know anyway) and extraordinarily wealthy (as Powell most assuredly is), he’s been through a lot in three years.

Powell survived Donald Trump, for one thing. No small feat. Regardless of your personal circumstances (i.e., irrespective of how privileged you are), it’s not easy waking up each day knowing there’s a good chance the President of The United States will berate you on social media and demonize your colleagues in the process. That must have been especially vexing for Powell who likely knew, from his extensive network in the private sector, just how bad of a businessman Trump really was. That probably made Trump’s criticism especially difficult to swallow.

No sooner had Trump left the White House for pseudo-exile in Mar-a-Lago, than Powell faced the worst public health crisis in a century. While you could argue Ben Bernanke’s task in 2008 was more difficult in some ways (e.g., Bernanke often had to explain how bad things were, whereas the nature of a pandemic makes explanations unnecessary), there’s a decent case to be made that no modern technocrat has shouldered a heavier burden than Powell did in March and April of 2020. The global economy literally shut down overnight. And he was the keeper of the US dollar. It’s hard to fathom what that must have been like psychologically, especially considering the distinct possibility that Powell, despite his wealth, doesn’t harbor the delusions of grandeur sometimes attributed to Yellen, Bernanke, Mario Draghi and Haruhiko Kuroda. Powell may be wealthy, but he’s a different animal in many respects from those four.

Now, Powell is doomed to repeating himself over and over again, as the implications of the Fed’s tweaked mandate language (here and here, for those who need a refresher) settles in both among market participants and policymakers. I’m not sure the Fed understood what they were taking on when they committed to a mathematical inflation goal with no math behind it and an employment goal that’s almost by definition impossible to reach in a capitalist economy.

There’s still no set equation for what counts as “success” on average inflation targeting, nor are there any specific, quantifiable thresholds (on the upside) that would prompt an immediate response. As regular readers are well apprised, I’m not in the camp that thinks runaway inflation is likely. The question isn’t so much what would happen in a scenario where inflation spirals, but rather what would happen in some kind of annoying middle ground, where inflation shoots up to, say, 5.5% out of the blue. That’s not high enough to cause a panic, but it’s clearly too high to write off as somehow consistent with a “modest” overshoot.

On the employment side of things, fostering inclusivity and equality sounds great, and it’s an admirable goal. But there are two problems. First is the rather inconvenient fact that the Fed’s tools are conducive to just the opposite. Asset purchases and record-low rates do more to exacerbate inequality than ameliorate it (figure below).

Second, it probably isn’t possible to achieve anyone’s idea of an egalitarian economy in the US. With the help of tax cuts and deregulation, the system has adapted and evolved into a cruel, profit-maximizing perpetual motion machine that generates worse and worse outcomes for middle- and lower-income households as time goes on, comparatively speaking. Tweaking a few words in the language around the Fed’s goals doesn’t address that — at all.

The bottom line is that the Fed faces a terribly vexing quandary: Continuing to use the tools they have will invariably lead to sub-optimal outcomes, some of which work at cross-purposes with their goals, but not continuing to use the tools they have could make the situation even worse.

Powell has largely given up on trying to rationalize or otherwise elaborate on the situation, in favor of just parroting and paraphrasing himself. On Wednesday, he gave an interview to the Economic Club of Washington, and although it seemed like the media was predisposed to writing it off as more of the same, there was a notable shift in how explicit Powell was on a few key topics.

For example, he said he doubts the Fed would ever sell bonds into the marketplace. That’s not “news,” but it does underscore a sense of permanency around balance sheet expansion. Tapering asset purchases is something that must be done with great care and months of forewarning. Passive runoff is something that could end in disaster (e.g., the funding squeeze that came calling in September 2019). Outright, active selling into the market would, I guess, be apocalyptic.

Powell also said that liftoff (i.e., the first rate hike) is highly unlikely before 2022. Again, that’s not “new,” but he’s getting pretty specific and emphatic about things. Most officials, he reiterated, don’t see rates rising until 2024.

The rhetoric around debt and the deficit is becoming unequivocal to the extent there’s zero urgency to address the situation, which is refreshing because unless inflation does show up, there’s nothing to address. Some readers (and almost all analysts) steadfastly refuse to admit this, but philosophically speaking, Treasurys aren’t “debt.” And the deficit is meaningless. While Powell on Wednesday said that, in the longer-run, the federal budget is on an unsustainable path, he also said the current level of debt is sustainable. He’s right. And one reason it’s sustainable is because he’s buying it (figure below).

Powell also said that the US can service the debt. Again, that’s self-evident. Of course the US can service the debt. The cost of servicing it is denominated in dollars, which the US issues.

Speaking of currencies, Powell called crypto a “speculation” vehicle, much like gold.

The reaction from markets was… well, there was no reaction because he didn’t say anything that was new. However, I’d argue that his Wednesday remarks were incremental. And whether he realized it or not, Powell essentially confirmed that the “state of exception” instituted years ago is permanent. There will be no “normalization,” folks. In case that hasn’t occurred to you yet.

The question is when everyone will drop the charade and admit that when something has been going on for a dozen years (or more, depending on your point of reference), it is normal. How many years in a row would you need to eat chicken instead of steak before it would make more sense to describe chicken as your “normal” choice of protein? I’m guessing 12 would suffice.

As long as this is paired with a durable fiscal impulse, there’s still hope for better, more egalitarian outcomes. Alas, I’m not optimistic on that front.

Accommodative monetary policy is here to stay — forever. We know what happens when it’s left on its own. The ball is in politicians’ court. They can either take advantage of monetary largesse and compliment it with policies that have some hope of creating a better future, or they can start backsliding into austerity. If that happens, the onus of sustaining the recovery will fall solely to Powell and his successors, with wholly predictable results.


10 thoughts on “Normality

  1. Can treasury outspend the fed? If our elected “take advantage” of monetary policy to better the lives of disadvantaged Americans in absolute terms will this not make them even poorer than “the gods” in relative terms?

  2. My kids are old enough to understand monetary policy, barely, and what you described has been in place as they were born (2006). To them, it’s more than normal. So, yeah, it’s now the norm.

  3. Classic recency bias.

    The political/bureaucrat class has managed to convince some people that destroying price discovery, suppressing volatility and pushing investors into a single global concave trade is “the only way”.

    Vol and risk can’t be destroyed, only transformed or transferred.

    Symptoms of this situation are becoming more and more frequent (feb2018, oct/dec 2018, april 2020, etc…) and, in classic black swan fashion, the one event that truly pushes CB intervention into its logical demise will come as unexpected and profound as ever.

    1. Talk about “recency bias.” Take a look at a timeline of life on Earth. Then plot humanity’s existence on it. Then plot the existence of “markets.” The idea that there are “rules” and certain immutable truths is patent nonsense. None of this stuff actually exists. It’s just make-believe lines on your screen. Wall Street folk don’t understand this. At all. There are no natural laws that govern any of this. Bonds aren’t rocks. Stocks aren’t trees. We can change the rules anytime we want, because all of this stuff only exists in our imagination. If we disappear tomorrow, so does all of this stuff that we pretend is real.

      How’s that for “profound”?

      1. If I have understood you correctly from your ‘body of writings’ – as long as we (humans) continue to believe, we are “good”. Once something comes along to replace where we put our beliefs- things can be shaken up/turned upside down.
        I hopefully have another 40 years of cognitive function- and at this point in time, I am not worried about complete/absolute disruption. A slow, methodical change(s), should be able to be absorbed into our core beliefs.
        I believe in SPY and today reinforced my belief.

  4. Unfortunately, this fed and congressional joint effort allows us to ignore things like the seizing up of overnight markets in 2019. The essential plumbing of the global economy is not well enough understood or maintained. I was taught that when a large or unusual event occurs and no one talks about it, that means it is not priced into the markets and is very important. I also see almost no one in the US paying attention to the eurodollar markets and what they can tell us. Similarly, we are still in denial about the role of leverage in all financial markets.

  5. well written effort per usual … undoubtedly Powell was one of the happiest people alive to see Trump vacate office .. I believe Powell will want another term health allowing … just a traditional two cents thought, not in a two cents wealth tax advocacy…

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