Powell’s Fed Just Made Its 4th Mistake

Powell’s mistakes, including cutting interest rates yesterday, are causing most of the economic problems.

Jerome Powell’s Federal Reserve just declared that it has ended the inflation fight with its 0.50-percentage-point interest rate cut.

But it is far too soon to proclaim victory. This marks the fourth major mistake made by Chairman Powell’s Fed since his nomination as Fed chair. The other mistakes were very costly to the U.S. economy. This latest mistake may prove to be the costliest.

His first major mistake, which occurred just months after being sworn in as Fed chair in 2018, was when he suddenly raised interest rates for no apparent reason. The four interest rate hikes in that year worked against the stimulative effects of the large across-the-board, tax cuts.

The country had been mired in a 2% annual growth rut since 2008. In 2017, the president and Congress decided to stimulate growth. To do so, legislation was passed to cut taxes fairly for all Americans. The resulting large increase in disposable income would lead to growth.

But as soon as the tax cuts took effect growth. Powell clamped down on consumer demand by jacking up interest rates. Growth hit nearly 3% in 2018 despite Powell’s first mistake. It could have been much higher.

The second major mistake lasted from January 2021 to June 2022. Inflation was starting to rise quickly early in 2021. Not only did he offer rather lame excuses like this “inflation is transitory.” but he kept interest rates near zero for the entire 18 months.

Worse yet, he rapidly expanded the money supply by having the Fed purchase almost half of the bonds needed to finance the administration’s massive deficit spending. Powell purchased $120 billion worth of government bonds monthly.

This mistake contributed to the annual inflation rate rising to over 9%.

The third major mistake occurred in September 2023. After waking up in June 2022 and realizing the top priority for monetary policy is price stability, Powell began to aggressively raise interests. By September 2023, he had raised the federal funds rate from near zero to over 5.25%.

He said that would be sufficient to end the inflation problem without causing a negative shock to the entire economy. The Fed would engineer a soft landing that would result in inflation falling to 2%. Unemployment would rise only moderately.

The mistake was that he paused rate hikes too soon. Had the rates been raised one or two more times, inflation would be a smaller problem today. Instead, his mistake allowed inflation to linger. It remained at 3% for most of 2024.

Today inflation has fallen slightly below 3%, due mostly to reduced oil prices brought about by the weak energy demand from China, Japan and others. In addition, some smaller countries are starting to produce more oil.

That brings us to mistake #4. The core CPI is 3%. Even the core PCE is 2.6%. The federal government continues to massively deficit spend. Labor has gotten and is still fighting for very large annual wage increases. Boeing machinists, for instance, just rejected a four-year contract with a total raise of 24%.

The point is inflationary pressures continue. By cutting interest rates 50 basis points, all interest rates will fall and that could be problematic. The resulting increase in demand will pull prices up, especially in the interest rate sensitive markets like housing.

Powell, of course, is concerned with the second priority of monetary policy which is full employment. He said that the unemployment rate had risen from 3.5% to 4.2%. The labor market had cooled. Although the number of new jobs has fallen, there are still more than 100,000 jobs created monthly. Normally that’s not a bad number.

Powell worries that the unemployment rate at 4.2% is too high and rising, although the unemployment rate did fall last month. Ask any economist what level of unemployment is considered full employment and they will all say 4%. The economy is about at that level now. It is certainly not high enough to worry.

Ironically, his position has changed. All through 2021 and half of 2022, he stayed put when inflation was skyrocketing. He didn’t seem to care about being ahead of anything. Now he wants to be ahead of any increase in the current, near full, employment level.

This last mistake will allow inflation to linger. If world events push up energy prices, the inflation rate will rise. Even if energy prices are stable, next year will mark the fifth year of the inflation problem.

Powell’s Fed has made too many mistakes. These mistakes are all very costly.

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