Fed Action, Job Report, Infrastructure- a little more growth, a lot more inflation
What a week we just had. It started with the American electorate soundly rejecting the policies of the people currently in charge. Then there were three economic events that will help us to forecast how the economy will perform going forward.
First of all, where are we today? Economic growth was 6.5% for the first half of this year but slowed to a 2% rate during the third quarter. Inflation, as measured by the Consumer Price Index (CPI), is running at about a 6.5% annual rate. The unemployment rate has fallen to 4.6% and there are less than 300,000 workers filing for unemployment benefits weekly.
The Job Market Looking Very Strong
The job reports released last week were generally very positive. There are fewer workers being laid off, indicating that businesses are generally doing well. The 4.6% unemployment rate is very close to a full employment level.
The rate, however, will not reach the 3.5% rate achieved by the prior administration’s policies prior to the pandemic.
Changing patterns in the jobs market show more people willingly change jobs. That temporarily adds to the unemployment rate since some of them will be between jobs when the survey is taken. There are some Biden Administration policies that are disincentives to working. And the virus fear and fatigue are still factors. Those will add to the unemployment rate.
Fed Inaction on Creeping Inflation Is Shocking
The Federal Reserve’s (Fed) inaction when inflation is this high is, quite frankly, shocking. Never in the past four decades has the Fed behaved so irresponsibly. As noted in this space since last March (Modern Monetary Theory, Inflation coming) and repeatedly in other numerous columns, inflation is and will continue to be, a major problem. Fixing the supply chain will provide very little help.
The current inflation is almost entirely caused by excess demand in the economy accompanied by wage inflation and energy inflation.
The wage inflation will worsen as workers demand wage increases greater than the inflation rate. Energy inflation will also continue as the Biden Administrations takes action to reduce the supply of energy, paired with increasing demand from a recovering economy.
The excess demand comes from the federal government deficit spending nearly $6 trillion in the past two years. Putting that on the back of a $22 trillion economy can only take us straight down the path of pure inflation.
Although the Fed said it will finally begin scaling back its $120 billion monthly bond buying, they have yet to act and it expects this gradual tapering will take about eight months. That means it will end next July.
The Federal Reserve also said it is unlikely it will raise interest rates until after the tapering is fully complete. That means sometime next summer. Frankly, I don’t think that will happen, and it’s hard to believe the governors of the U.S. Federal Reserve believe that, either.
October CPI Number Could Reach 0.8%
Although there is admittedly little hard data, it appears that prices took a big jump in October. Some of the sample data is gathered fairly early in the month, so all of the inflation may not be captured. But based on some observations, the monthly CPI number could be as high as 0.8%. If it stays at that level for the rest of the year, inflation will hit 7% for 2021.
The Fed uses a statistic called the Personal Consumer Expenditure (PCE). The PCE says that if prices rise on a specific product, consumers will substitute an inferior good for a good that they normally buy, so they really won’t feel the CPI level of inflation. The reality is that they feel the CPI regardless of any potential consumer behavior changes.
A more responsible Fed, perhaps one where the Chairman is not worried about reappointment, would immediately begin the bond purchase tapering and follow that up, very shortly thereafter, with increases in the interest rates. The longer the Federal Reserve waits, the more drastic its action will be.
Biden Seeks More Excess Demand
The infrastructure bill finally passed in Congress and is on its way to the President for signing. While it is true that our crumbling infrastructure needs to be fixed, the $1.2 trillion bill is about twice the amount actually needed. That means more excess demand will be added to the economy.
While the president says this bill is “fully paid for” and won’t add to the deficit, that simply cannot be true. The only way it could be true is if $1.2 trillion in spending will be cut elsewhere or taxes will rise by $1.2 trillion. Neither of those scenarios will happen. I believe the Congressional Budget Office will reach a similar conclusion.
Last week’s events will lead to a growth rate higher than the current 2%, but the actions will all contribute to an already huge inflation problem.