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Goodbye Fed Credibility, Hello Stagflation – Ep. 168

  • Another volatile day in the stock market sees the major averages deep in the red
  • The Dow was down just over 1%; down 180 points, 17,529
  • The NASDAQ actually got walloped a little more; down just shy of 60 points, 1.25%
  • I think the catalyst for today’s declines was a couple of Fed officials talking about how June is a live meeting – live from the perspective of, “We might raise interest rates”
  • I don’t think it’s live at all, I think it’s dead, and if it were alive, the stock market decline would kill it
  • If Wall Street actually believes that the Fed is serious about raising rates in June, the market would be tanking
  • In fact, if more people believed it, the market would be down more than 180 points today
  • As we got closer and closer to the date that the Fed was theoretically going to raise rates, the market would be so low, that any talk of a rate hike would be dead, because the Fed would be dealing with tighter financial conditions
  • The Fed doesn’t want to tighten monetary policy with financial conditions are tightening on their own
  • It’s interesting, too, that you hear people asking, “Why does the Fed have a June rate hike on the table”? I keep hearing about the economy strengthening
  • The economy is not strengthening! That’s just the point, the economy is weakening
  • Yes we did get a little data in the last few days that was better than expected, buy we also got data that was worse than expected
  • Most of the financial data that has come out since the last time the Fed hiked rates has been bad
  • If the Fed is talking about raising rates, it’s not because the economy is getting stronger, it is despite the fact that the economy is getting weaker
  • What is getting stronger is inflation
  • The problem is, even though inflation is above the Fed’s so-called 2% target, I don’t think this raises the probability of a rate hike
  • If anything, the increase in prices will slow down the economy even more
  • We actually got some official inflation data today, we got the April CPI
  • The consensus was for a move +.3, following the prior month’s +.1
  • We got a bigger jump than was expected – we got +.4
  • The year-over-year headline number – not the core number – is now 1.1
  • So the year-over-year is below 2% but if you annualize that .4 for the next 11 months that would be a 6% annualized rate of CPI-based inflation
  • I read articles about the jump in the CPI and the jist was that this is good news, because the Fed is making progress on its policy goal of price stability –
  • If you think about how ridiculous that comment is:
  • We had a big spike in consumer prices, which if you annualize the rate of increase that’s 6% increase in prices and that’s progress on price stability?
  • If anything, the Fed is moving away from price stability
  •  If you’re going for price stability, the less prices go up the more stable it is
  • I don’t know how much more “stability” people can stand –
  • If prices get any more “stable” than this, we’re going to have runaway inflation
  • This is not about price stability – this is about generating inflation on purpose because there is no alternative for the Fed
  • In recent times, a hotter than expected inflation number, causes the currency goes up
  • And when inflation is lower than expected, the currency goes down
  • Now, you might think that’s counter-intuitive, and actually it is
  • Why would higher inflation be good for a currency?  After all, inflation measures how quickly a currency loses purchasing power
  • So why would a currency that is losing purchasing power more quickly be more valuable?
  • In today’s world, low inflation is bad for your currency and high inflation is good for your currency
  • The reason for that is that everybody is fixated on central bankers
  • The idea is that if inflation is high, that means the central bank of that country will not cut rates
  • So it’s the tighter monetary policy which is a consequence of higher inflation, that is good for the currency
  • On the other hand if inflation is lower than expected, the currency tanks
  • But here is the interesting observation from today:
  • Even though there was a knee-jerk reaction, if you watched how the dollar traded, as soon as the higher than expected CPI number was released, you saw the dollar spike up and you saw gold to down a bit
  • But at the end of the day, the dollar was basically flat
  • You would have expected a big rise in the dollar especially with a couple of Fed guys talking about how they might raise rates in June
  • So the prospect of higher rates, and inflation did not create a move in the dollar
  • Same thing with gold, only the opposite
  • Gold still managed to be up about $5 today
  • That is a pretty significant indicator that there is a problem
  • The problem is that people are seeing that even if inflation is higher, it doesn’t mean the Fed is going to raise rates because they can’t
  • Because what we have now is stagflation
  • This is where we have a pickup in inflation, but not growth
  • The economy is weakening at the same time inflation is picking up and that puts the Federal Reserve in a very difficult position
  • Because they can’t raise rates to combat inflation while they are worried about the economy
  • Also, I believe that the employment numbers have already rolled over
  • So not only is the economy going to be slowing down and prices picking up,
  • But unemployment will also be rising, and that’s another mandate of the Fed
  • So what happens if the slowing economy is producing an increase in unemployment at the same time that prices are rising?
  • Which monster does the Fed try to slay?
  • I think it will always go for jobs
  • They will try to stimulate the economy, which means the Fed surrenders to inflation
  • The only thing that has been propping up the dollar is all the tough talk
  • Saying, “If inflation ever picks up, we’ll raise rates.” is a bluff
  • They can’t do that
  • And when the markets figure out that the Fed has been bluffing, that they have no control over inflation
  • That inflation fire, once it’s lit will burn unchecked
  • Then there will be a big run on the dollar
  • We’ve already seen, numbers are coming out today
  • The Saudis, the Russians, the Chinese moving away from the U.S. dollar, moving more money into gold
  • In fact, look at the price of oil today
  • Oil prices continue to rise – crude up another 70 – 80 cents today about 2%
  • We’re now back above $49/barrel
  • We got as low as 27-28 earlier in the year and we’ve had this huge 70%+ rise since then
  • Rising gas prices was a big reason why the CPI jumped up so much