The Battle Against Inflation Begins

There shouldn’t be too many surprises coming out of this week’s Federal Reserve monetary policy meeting. The newly hawkish Fed is likely to formally announce its intention to accelerate the tapering of its asset purchases, as Fed chair Jerome Powell told Congress recently, echoed by other Fed officials so that the program ends sometime around March of next year, rather than several months later, in order to ward off the inflation that Powell now concedes isn’t transitory.

The bigger question is, will the Fed actually be successful in putting the inflation genie back in the bottle? After trying unsuccessfully for more than 12 years to lift inflation past its 2% target, why should we now believe that the Fed suddenly has the smarts and the oft-mentioned “tools” to rein in inflation that is now at its highest level in several decades?

The data-driven Fed has more than enough justification to expedite the taper, which would then lead the Fed to start raising interest rates off zero soon after, rather than waiting until sometime at the end of next year or even 2023.

Inflation

On Friday, the government announced that the year-on-year rise in the consumer price index jumped to 6.8% in November, up from 6.2% the prior month and the fastest pace in nearly 40 years. It was also the sixth straight month that it topped 5%, adding further evidence that the rise in inflation this year is anything but temporary. The YOY rise in the core index, which excludes food and energy prices, rose 4.9%, up from October’s 4.6% pace and the steepest increase since 1991.

Does that sound transitory to you?

Jobs

On Thursday, the Labor Department said initial jobless claims fell to 184,000 for the week ended December 4, not only the lowest level since the pandemic began but the smallest number since September 1969. Labor also announced that the number of job openings had grown to 11 million in October, far exceeding the 7.4 million of unemployed workers. In other words, there are plenty of jobs available, just not enough people to fill them.

That followed the November jobs report, which showed that the unemployment rate dropped to 4.2% from 4.6% as nearly 600,000 people were added to the workforce, i.e., they are looking for work, which raised the labor force participation rate to 61.8%, its highest level since March 2020.

All of which means the Fed can no longer claim it needs to keep its monetary supports in place to foster low unemployment. We’re already there.

Omicron

Meanwhile, the wild card that could have deterred the Fed from going forward with a faster taper, the variant’s possible negative effect on the economy doesn’t seem like the threat it initially posed. While apparently extremely contagious, the new strain of Covid-19 doesn’t appear to be more serious than the Delta variant, and Big Pharma seems confident that its existing vaccines and treatments, and those to come, will keep it under control. That should give the Fed additional confidence to keep reducing accommodation and start raising interest rates.

But will that be enough to keep inflation from spiraling even higher, and how long will that process take?

If bond yields are anything to go by, the financial markets aren’t particularly worried about inflation. The yield on the benchmark 10-year Treasury note actually dropped below 1.50% on Friday after CPI was released.

But other factors would seem to argue against a quick cure. Friday’s CPI report also showed that gasoline prices rose by 6.1% for the second straight month, that’s compared to the month before, mind you, not the year before. Unleaded gasoline prices are up more than 40% so far this year.

Given current Biden Administration energy policy, which strongly discourages fossil fuels, we can expect no let-up in rising oil prices. And hate to break it to you, the vast majority of the U.S. economy still operates on oil and will continue to do so for years to come. Just where do you think all those EV recharging stations get their power from?

Wage increases also show no signs of declining and thank goodness for that. As the November jobs report showed, there are way more job openings than available workers, so pay is going to have to go up to attract people, as it already has. And those people with jobs are showing a greater inclination to quit if they’re not happy because they’re confident they can do better somewhere else.

So, if the Fed thought it was a challenge to create inflation, it’s going to be a lot harder to tame it. It hasn’t had any practice since the Paul Volcker days of the 1980s, and there was a lot of pain and suffering that resulted if you remember. Jay Powell is going to have his work cut out for him.

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George Yacik
INO.com Contributor - Fed & Interest Rates

Disclosure: This article is the opinion of the contributor themselves. The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. This contributor is not receiving compensation (other than from INO.com) for their opinion.