If the economy does not slow down on its own, it will have to be calmed down. The markets still do not quote that Powell and Cía. They must also correct and increase the rigor of monetary policy.
The future is not what it was. The best of all worlds – as the governor of the FED, Chris Waller, said last year – crashed and went out of square. This is not a one-off accident. The robust economy of 2023 managed to compress second half core inflation within the 2% target. But 2024 is not the continuity that was promised. From January to March, and without exception, price movements once again operated in a clear and sustained offside position. Its acceleration was forceful: 4.4% (if the core deflator of personal consumption is taken). No one can be surprised then if the FED decides on a profound change of plans. So far, the policy being implemented remains untouched. The central bank last raised rates in July. And in December, he pivoted toward a projected rate cut that never came to fruition.
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With rising inflation, pruning was put on hold until further notice. The official discourse is patient and did not alter in its fundamental vision. It assimilates the unforeseen jump in inflation to a roughness in the road that does not question its downward trend. A shakeup as Jay Powell said. But the FED is data dependent and if data is not disciplined it will have to take firmer action on the matter. And if so, the sooner the better.
It is not true, however, that the US has migrated from the best of all worlds to the worst without stopping, as a superficial reading of the latest national accounts report suggests. Did inflation overheat while suddenly aborting the rise of the real economy? It is true that GDP expansion was expected at least one point above the 1.6% recorded in the first quarter, but the economy did not cool its strength one bit. Job creation accelerated. Aggregate demand kept its momentum intact. Final sales to the domestic private sector, for example, increased 3.1%. The only thing that hit the brakes was federal public spending, which fell 0.2%. Private consumption grew 2.5%, contracting the personal savings rate from 4% to 3.6%. There is a moderation in consumer spending on goods that has catapulted to levels never seen before due to the pandemic and is now converging to its old pattern.
Can the specter of stagflation be brought up again? It was done at discretion, but it shouldn’t be. There are simply no justifications. Consumption of services exploded: +4%. Fixed investment, +5.9%. Investment in housing, +13.9%. Stagnation? Where? Aggregate demand flies (as do prices). And it was supplied by using a 7.2% jump in imports and a reduction in inventories, beyond the growth contributed by the gross product. But this leaves the table ready for the expansion to continue, perhaps also beyond what the FED would like today.
Investors have no doubt that inflation will be controlled sooner or later
If the economy does not slow down on its own, it will have to be calmed down. In the current situation, your problem is not the sudden cold but the simultaneous overheating of employment, activity and spending. And, above all, the prices. Every line you look at gained a speed of around 4%. Monetary policy is restrictive, says the FED. But in fact it does not restrict excesses as it did until the end of last year. Real interest rates are positive, although less than previously thought. With Monday’s newspaper, the FED pivot in December took care of adding fuel to the fire by believing, wrongly or not, that the economy was weakening quickly. And now it is proven that he rekindled the bonfire too much and at the wrong time. The markets, which always anticipate, roared first of all with a powerful rally. Its bullish excursion unfolded from November to March and destroyed all stock market records. They already unsaddled as soon as April began. And what do you anticipate? A correction that puts cold cloths on the excitement.
The markets still do not estimate that Powell and Co. must also correct and increase the rigor of monetary policy. In principle, they do not believe that the alternative script that worked last year when the FED went into winter quarters should be changed. Long rates (and the firm dollar) can rise and take care of dissipating the effervescence on their own. Investors do not doubt that, whatever the cost, inflation will be tamed sooner or later. And judging by this week’s rebound – the best since November – they did not lose any sleep over the threat of eventual stagnation. The S&P 500 and the Russell 2000, the two extremes of the board, the blue chips and the small caps, rose more than 2.5%. The Nasdaq, 4.3%. Wall Street thinks like the FED that the rate cut will be postponed and not that it should be replaced by an increase. But, as always, reality will have the last word.
