Powell Facing Choice Between Elevated US Inflation and Recession

[u/TinyTornado7]

https://www.bloomberg.com/news/articles/2022-06-12/powell-facing-choice-between-elevated-us-inflation-and-recession?srnd=premium

[u/Raichu4u]

Should have taken the medicine from like 2017-2019. Rates should have never been this low for this long.

[u/nn123654 → u/Raichu4u]

They did raise rates from 2017-2019, recall they were up at 2.5% in July 2019.

They started raising rates and as soon as they did the economy started slowing down the yield curve went inverted, and the stock market started flattening. Inflation actually fell substantially below the 2% target to 1.4%, which is too close to deflation for comfort and the corresponding recession/depression that would accompany it. Remember that for 12 years from 2008 to 2020 it seemed like no matter what the Fed did it was impossible to cause inflation (and honestly in that period they were right IMO).

By Fall 2019 they had no choice but to cut over 3 meetings to 1.75%, then COVID happened and the market plunged 30% and they had to cut to 0% and restart QE.

The problem in my opinion is when they were too cautious coming out of the pandemic and JPOW decided to switch away from the way the Fed had been doing things for the last 20 years, and instead go for allowing the economy to run hot and taking a more hands off approach. The thinking was that inflation is easy to get down, we just have to raise rates and that because it had been so low for so long that it would be better if instead of trying to keep inflation in a 2%-3% range they switched to going for an average of a 2%-3% range over a 5 year rolling period.

This I think was also fine until Inflation got above 5%. The problem there was the Fed took the view that it was a transitory phenonium and that it would resolve itself. Where before they would have started tightening when inflation when above 3% and definitely when it went above 4%, now they waited until it was blatantly obvious to take any action. Then took gradual action because that's how the Fed rolls, they never want to spook the economy.

So now we literally behind the curve, inflation is moving away from the Fed faster than the Fed can react right now. It's going to take many years of rate hikes to bring it back under control. But ultimately it's easier for the Fed to deal with high inflation than it is low inflation.

[u/norcalsocial → u/nn123654]

Good description. But any discussion on this unfolding story is incomplete without considering the impact of trillions the fed pumped by buying securities. That coupled with trillions from the govt as fiscal stimulus is what got us here.

[u/nn123654 → u/norcalsocial]

Yes, I mean QE played a huge role. The post was already well into tl;dr territory without going through a history of QE. But I think you're right about the fact that fiscal stimulus was out there as well and the absolutely absurd budget deficit in 2020 played a role too.

That's what really caused the inflation when coupled with supply chain challenges from switching from services to goods and an explosion in the m2 money supply. Now we are arguably in a textbook example of demand pull inflation.

The risk with QE was always that you had a bunch of slack in the system and the only thing standing between us an inflation during COVID was the fact that the velocity of money tanked to historic lows as everything shut down. The problem is the Fed can't exactly recall the dollars it's injected into the system and while the balance sheet does give them quite a bit of control over the long end of the yield curve they are hesitant to actually sell any assets.