Fed Juggles Two Swords Growth and Inflation
Fed Juggles Two Swords Growth and Inflation

By Andrew Moran

The U.S. economy has been cushioned with trillions of dollars in stimulus and relief. With inflation becoming the dominant trend over the last year, the Federal Reserve is beginning to wind down its pandemic-era tools. But can the economic recovery be sustained without these mechanisms?

The Bureau of Labor Statistics reported that the U.S. annual inflation rate surged to 6.8 percent in November; its highest level since 1982.

Last month, everything was more expensive, with food and gasoline prices soaring 6.1 percent and 58 percent, respectively. Apparel climbed 5 percent, new vehicles rose 11.1 percent, used cars and trucks soared 31.4 percent, and shelter increased 3.8 percent.

The number of items falling was minuscule. Potatoes dipped 0.2 percent, prescription drugs fell 0.3 percent, and college textbooks slid 0.2 percent.

Suffice it to say, strategists agree that it looks like the Federal Reserve and the Treasury Department are justified in finally removing the term “transitory” from their commentary.

But what is next on the public policy front?

The U.S. central bank has initiated its tapering of the pandemic-era quantitative easing stimulus and relief measures. The Fed is expected to unwind this asset-buying program by the summer of 2022, although there have been signals that the institution could accelerate its tapering endeavors.

It remains uncertain what the Fed will do about interest rates. According to the CME Group FedWatch tool, May could be the month that the central bank raises the benchmark rate, potentially acting as a cure to the inflation tsunami that has flooded the economic recovery. Fed Chair Jerome Powell has signaled that the central bank has the patience to take its time on rates.

Either way, there is some skepticism that even two rate hikes next year will be sufficient to curb inflation and result in an economic downturn.

Lance Roberts, the Chief Strategist at RIA Advisors, told NTD Business that the coming rate hikes could “trigger an economics fallout.”

“You go back to 1980, every single time the Federal Reserve has started a rate hiking campaign, it’s resulted in either a market crash or recession or some type of crisis,” Roberts said.

“The question is not will their interest rate hikes eventually do this? The question is only when. And the problem is, we don’t know what level that is. So, is it 2% interest rates? Is it three? Is it four?”

He added that the Fed has manufactured asset bubbles and then burst these bubbles, producing recessions.

“We’re trapped in this monetary cycle of boom and bust, rather than allowing the business cycle to smooth things out and create better economic prosperity for everyone,” he said.

In addition to Fed policy, there are other factors persisting in the broader economy, including jobs and the supply chain disruption.

An October survey, conducted by Duke University’s Fuqua School of Business and the Federal Reserve Banks of Atlanta and Richmond, revealed that chief financial officers think the ongoing supply chain crisis will linger into the “second half of 2022 or later.”

On the labor front, the number of job openings in the United States rose by 431,000 to 11 million in October, topping most market estimates. This was close to a fresh record high as companies continued to struggle to find workers.

Job quits in the United States also remained near all-time highs, with 4.157 million resignations in October.

There is still plenty of uncertainty heading into the next calendar year that it could be challenging to gauge the efficacy of monetary policy normalization, says Kevin Rich, a consultant to Perth Mint.

“The Fed has been very balanced in communication of its desire to taper asset purchases but cautious to not slow GDP growth or market performance by tapering too soon,” Rich told The Epoch Times. “The question of interest rate hikes is still a long way ahead and only will become clear once asset purchases have ended or are about to end. The past two years the Fed has shown it will error on the side of allowing spikes in prices versus watering down GDP growth, so there is no reason to think this will change next year.”

Inflation in 2022

President Joe Biden’s approval rating on the economy stands at around 38.5 percent, based on Real Clear Politics’ average polling data.

A November CNN survey performed by SSRS (pdf) suggested that 58 percent of Americans do not believe President Biden is paying attention to the nation’s most pressing issues. The poll found that 36 percent of respondents believe that the economy is the country’s top problem. Of this group, more than two-thirds assert that President Biden has not been attentive to this matter.

Suffice it to say, as more consumers become bearish on the post-COVID landscape, the American people want the president to save the U.S. economy.

Indeed, many Americans possess a dour outlook on the health of their finances. The Federal Reserve Bank of New York’s monthly Survey of Consumer Expectations shows that short-term median inflation expectations have surged to a record high of nearly 6 percent. Consumers are bracing for higher prices across the board, except for medical care.

For the broader economy, views remain bearish.

While the University of Michigan’s Consumer Sentiment Index improved in December, it is still hovering at its lowest level in nearly a decade.

The Conference Board’s Consumer Confidence Index slumped in November. The National Federation of Independent Business (NFIB) Small Business Optimism Index declined to a seven-month low in October.

Some experts are not convinced that they are ready for these conditions despite consumers’ concerns, mainly on the rampant price inflation front.

“My view is that the majority of consumers are still not prepared for fast pace inflation,” said Stoyan Panayotov, the founder and CEO of Babylon Wealth, in an interview with The Epoch Times. “Many consumers are holding large amounts of cash in their bank accounts. We are looking at $20 trillion in money supply, M1—cash and cash equivalents. Pre-pandemic, the M1 was equal to around $4 trillion.”

At the same time, he noted that the dollar value of personal savings has been trending downward after a period of pent-up savings during the public health crisis.

But will inflation remain the chief buzzword around the kitchen table and on Wall Street heading into 2022?

The talk at the Fed is that inflation will be a fixture of the economy well into 2022.

New York Fed’s John Williams predicts inflation will taper off to around 2 percent next year. Likewise, San Francisco Fed President Mary Daly anticipates “eye-popping” inflation to subside sometime next year.

At the White House, Treasury Secretary Janet Yellen forecasts that inflation pressures could ease before the 2022 U.S. mid-term elections if COVID-19 dissipates.

But not everyone is confident of these rosy projections.

“Supply chain strains, labor market shortages, and the arrival of corporate pricing power have pushed inflation to a 30-year high. The Federal Reserve expects these influences to fade through 2022, but we are not so sure,” said James Knightley, Chief International Economist at ING, in a note.

“Firms have millions of job vacancies to fill so competition to find workers with the right skill set will remain intense. Demand-supply issues are a global phenomenon with semiconductor producers warning shortages could last through 2023. In an environment of strong demand, record order backlogs, and ongoing supply constraints, cost increases can continue to be passed onto customers.”

Others contend that the U.S. central bank cannot successfully tackle inflation because its underlying models are fractured.

“I think it’s pretty darn obvious that the Fed cannot control inflation on the downside, or the upside, given the current experience,” Danielle DiMartino Booth of Quill Intelligence told CNBC.

Stephen Moore, a former member of The Wall Street Journal editorial board and noted author of Trumponomics, accused the Fed of being “behind the curve for now six to nine months on dealing with this inflation problem.”

“Now we’re just seeing that the inflation problem is a tax. It’s a tax on the American people. It’s also what I call the cruelest tax. It’s a tax that affects lowest income people the most,” Moore stated in an interview with Liberty Nation‘s Swamponomics TV, adding that he has not seen any policies put forward to suggest the central bank is taking the issue seriously.

Kevin Rich believes that employment data needs to offer a more consistent reading before it can be determined how inflation performs next year.

“But as we continue to exit the pandemic and these figures become more reliable, if we see the labor market really tighten and wage inflation continue then that could shift the expectations toward broad and higher inflation over the short to medium term,” he explained.

On the fiscal side, President Biden and the Democrats have approved multi-trillion-dollar spending schemes, causing some institutions to raise eyebrows amid an inflationary environment.

The U.S. Chamber of Commerce issued a statement after following the inflation data release, urging the administration to hit the pause button on the reconciliation bill.

“With prices rising 6.8% over the past year, squeezing budgets for families and small businesses alike, it is time for Congress to hit pause on the reconciliation bill and not add any more fuel to the inflationary fire,” said Neil Bradley, executive vice president and chief policy officer at the U.S. Chamber of Commerce, in a statement.

“The already enacted American Rescue Plan will result in over $525 billion in additional spending and tax cuts in FY 2022, per the Congressional Budget Office. The House-passed reconciliation bill would add another $150 billion in transfer payments and tax cuts as well as additional spending. All of this is a recipe for more inflation throughout the next year. Rather than ‘building back better’—the reconciliation bill will just be bringing back bad inflation.”

Where Will Price Pressures Be Found?

In addition to the supply chain chaos and labor struggles, there is a broad array of other inflation pressures.

Global food costs are inching toward a record, contributing to additional inflationary pressures for consumers and businesses. Climbing freight costs, bad weather conditions in many crucial markets, surging fertilizer prices, and even public policy measures have weighed on food inflation.

The labor shortage in the food sector is also contributing to inflationary problems. Meat-packing facilities have fallen behind because labor availability has limited capacity issues. This has resulted in companies trying to find employees to work nights and weeks, forcing employers to offer higher compensation.

“Just six weeks ago, the Biden Administration tried to blame the meat and poultry industry for the rising cost of food,” said Julie Anna Potts, the president and CEO of the North American Meat Institute, in a statement to Congress in November.

Tyson Foods, the world’s second-largest processor and marketer of chicken, beef, and pork, recently confirmed spending approximately $500 million on wage hikes and other bonuses this year.

On the energy front, crude oil prices are projected to stay high. However, there is a debate on how much a barrel of oil will cost next year.

In its monthly Short-Term Energy Outlook (STEO) report, the U.S. Energy Information Administration (EIA) slashed its price forecasts as it expects West Texas Intermediate (WTI) to average $66.42 a barrel, while Brent is slated to average $70.05 per barrel. The government agency attributed the lower forecast to sliding energy demand.

JP Morgan Global Equity Research prognosticates that oil prices will top $125 per barrel in 2022 and $150 in 2023 because of capacity-driven production shortfalls by the Organization of the Petroleum Exporting Countries (OPEC) and its allies, OPEC+.

“As the group’s (OPEC+) real volume potential is discovered, this should drive a higher risk premium to oil prices,” researchers said in a November 29 note. “We think OPEC+ will slow committed increases in early 2022, and believe the group is unlikely to increase supply unless oil prices are well underpinned.”

Rich does not think it is a black-and-white issue. Instead, he contends, energy prices will “show more volatility” moving forward.

“This volatility won’t always be to the upside, and we’ve seen what OPEC can and has done historically to drive energy prices in either direction,” he noted. “So, I’d say yes, expect higher prices at times, and pull backs in price as well, as the transition away from oil has a long way to go.”

Is It Time to Get Ready for 2022?

As the United States switches over to the next calendar year, and the private sector grapples with close to a four-decade-high inflation level, will the issue of higher prices come to a resolution?

Stephen Moore does not think inflation is a challenging problem to solve.

“It’s not like this takes great thinkers. You have to stop the flow of money into the economy,” he said.

But with the Biden administration’s social-spending and climate change initiatives, it is unclear if policymakers will cease injecting money into the economy to support growth and push ahead with the Build Back Better agenda.

Whatever the case, investors are not taking any chances. Retail and professional traders are getting prepared for inflation’s permanent stay next year as they have started altering their asset allocation, notes Stoyan Panayotov.

In this environment, investors are purchasing more stocks and real estate, moving away from conventional bonds, and swapping gold and silver with cryptocurrencies, like Bitcoin and Ethereum.

Can the US Economy Survive Without Support?

Since the early days of the coronavirus pandemic, the Federal Reserve has printed about one-third of all U.S. dollars ever created.

This historic monetary expansion was designed to cushion the economic blows of the global health crisis. But while it might have limited the nightmarish scenarios of the pandemic, it has produced a double-edged sword, says Robert Genetski, one of the nation’s leading economists and financial advisors.

“From a monetary standpoint, the recovery will end when Fed policy limits the amount of money to less than the economy’s ability to produce goods and services,” Genetski told The Epoch Times. “The Fed can create such conditions by either not buying securities or by selling them.”

He believes that the central bank will refrain from raising interest rates fast enough so as not to hurt the economic recovery.

“If, as I expect, inflation remains high in 2022, sometime in 2023 or 2024, the Fed will likely raise interest rates enough to limit the supply of money and bring about a downturn in the economy,” Genetski added.

Ultimately, market observers purport that the Fed has two options. The institution can tighten monetary policy to fight inflation and threaten growth or maintain stimulus and relief efforts that elevate inflation but support the economy.

Fed Chair Jerome Powell has pivoted before, and he could do it again.

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