US Inflation Accelerates, Spending Surges In Nightmare For Fed
Surprise! Americans spent more than economists anticipated last month, and inflation ran hotter than expected.
Friday's closely-watched US government data painted what, by now, is a familiar picture. The economy isn't inclined to yield to Fed hikes and that, in turn, means inflation isn't either.
Personal consumption rose a robust 1.8% in January, easily more than the 1.4% consensus expected, underscoring the red-hot read on nominal spending from last week's retail sales report. December's dec
Please refresh my memory – how do higher interest rates cool inflation?
Sure, the sacred models say they will but what are they achieving in the real world?
Entirely anecdotal to one sector, but in commercial real estate:
1) Rates go up, changing investor return expectations and lending terms.
2) Major lenders have stopped commercial lending, expecting an influx of foreclosed properties in the next 12-24 months as those assets are forced to refinance at much higher rates. Lack of financing is killing projects.
3) Tenants (businesses) see these added costs from (1) and (2) in terms of much higher rents.
4) Businesses and investors are pulling back, resulting in cancelled projects and less construction and investment volume.
5) Construction costs in certain sectors have stabilized (and in some cases, dropped) from bids 6 months ago.
6) Construction and brokerage volumes are dropping, resulting in layoffs at a variety of developers, brokers, and general contractors.
7) Unemployment rises, tamping down wages and spending, and the cycle moves on to another sector.
However unfortunate, the Fed has limited tools and (in my opinion) will create unemployment (and associated suffering) to control inflation. It’s not a fair game, but it never was.
By raising the cost to borrow, they raise the break-even point for spending decisions, especially at the corporate level. That decreases economic activity in general, which should lead to a drop in pricing pressure. There’s more to it than that of course, but that’s a pretty good start.
Corporate spending/buybacks stymied? Sure. But how much of an impact do those expenditures have on the broader economy? In the US consumer spending accounts for 2/3rds of GDP, or is it 3/4? That is who is suffering so much of the damage. With so little to show for it.
The trillion in annual interest payments at 5% is supposed to stay in institutional accounts and not end up getting spent on anything.
So… faith. “Secular” inflation, indeed!
I think higher rates first affect asset price inflation (houses, stocks,etc), then business investment and big-ticket goods, finally general consumer behavior. It takes time to get to that last because consumers, especially low-mid income, spend based on their employment situation, and employment is a lagging indicator.
Even supposing that lifting rates from 0% to 5-6% has no impact on inflation (because inflation is driven by other factors and/or stochastic), it seems good to get rates up. Overly cheap/free money distorts the economy and markets.
As for the low-mid income consumer, I don’t see the major pain being suffered due to rising rates. I think most of the pain felt is due to inflation, from lower-income retirees struggling to afford food to lower-income families struggling to afford housing. Laid-off mortgage bankers and tech workers excepted, of course.
If the Fed could convince Americans: “Spend less for a month or two… 20% less at least!” and they did it, believed it…
Then prices wouldn’t “inflate” as inventory piled up, businesses wouldn’t hire more workers and buy more/extra supplies, and suddenly inflation would recede.
Instead, raising interest rates acts like a receding tide, and fish (anchored?) near the shore die as investors no longer prop up “growth without profit ever” rube goldberg companies, as that “sure bet in real estate” suddenly has a real cost to leverage (and short term adjustable rates that you always rolled over), as crypto defi ponzis find their suckers are okay with 5% TBills, and finally with a lag that spills into the real economy where companies fail or do layoffs and that 20% less spend happens mostly by those who can’t spend at all anymore.
(ignoring their housing and healthcare plight).
The Fed wants to print money.
It’s in their DNA.
Politically, printing money is very popular.
Additionally, it helps to monetize the US debt burden.
There’s all kinds of reasons why the Fed wants to print money.
But they can’t. And there are very slow in reigning in inflation.
Inflation expectations are becoming embedded.
Powell is no Volcker. They say they’re tightening, but are they?
I see stocks near all time highs. I see FOMO in the markets. I see Nvidia off to the moon. The dollar has been quite weak recently.
We will know that the tightening cycle has begun, when Tesla and Nvidia stocks are both crushed.
I’m not sure a rallying cry for monetary policy should be “It’s not over until Nvidia is bankrupt!!”
Also, all of this may be end up being secondary to the war. https://heisenbergreport.com/2023/02/24/furious-invincibility-furious-inflation/
I feel a Dunning Kruger moment coming
Sidenote – as far as I can tell, NVDA’s current valuation discounts FCF growing in the low 20%s per yr for the next ten years – reaching a size not far off AAPL today – and then growing +HSD% forever.
There’s never going to be purpose-built ASICs for AI training or inference, I guess . . .
Perhaps we are getting a first-hand lesson as to why Volcker had to raise rates so high back in his day. Maybe you really have to stomp-out any hint of speculation in the markets, or any hope of easing, and crush any discretionary spending–repeatedly–before inflation can truly abate. Additionally, an ongoing conflict in Europe was simply not in the cards, and even one-year later there appears to be no end in sight. Perhaps the “soft landing” narrative is simply too optimistic for what truly needs to be done at this point. Let us hope for something better, and take note of what transpires.
T-Dog, I think you have it right. Many investors today were not alive for Volker’s rates. Many others were too young to be in the market (I graduated HS in 83). I remember my grandfather excitedly rolling over 6-month CD’s as rates ratcheted up and then trying to time the top to lock in longer durations. My grandfather was a jazz pianist who knew music so well but was a lousy investor. He’d given up on trying to make money in stocks so was thrilled when he could make money simply by leaving money in the bank. Having already shunned stocks, it was easy for him to see the opportunity.
So what about people ages mid-50’s to mid 70’s now, that know what happened in the 80’s? I think the vast majority still cannot fathom that the Fed is on a Volker war footing. But that’s what is happening right in front of their eyes. And the investors behind them in age, are even more incredulous.
You can lead horses to water…
Has anyone looked at the possible confounding effect of seasonal adjustments in the pandemic and post-pandemic period?
I’m trying to understand why consumer spending would be weak YOY in Nov ‘22 and Dec ‘22 then strong YOY in Jan ‘23. I notice there was a similar pattern Nov ‘21 – Jan ‘22. I’m wondering if this rebound in PCE growth is real, and I don’t mean “inflation-adjusted”.
There is seasonal distortions- its been a very warm winter and omicron last year depressed january which also distorted seasonal adjustments. However, the numbers still look pretty robust. I suspect there will be some payback soon and that’s when you will see an inflection point. Not great for risk assets…