Inflation is bad, but not worse


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Good morning. The stock market fell for two consecutive days. It is a correction! Or something else! Whatever it is, we are back to talking about inflation. Send us your thoughts: [email protected] or [email protected].

Prices and politics

U.S. inflation rate rises in October hotFor the time being, this may be more important politically than economically, but politics is crucial to the market.

The important data in the consumer price index report on Wednesday was inflation, excluding food and energy, which rose by 4.6%. This tells us that the core inflation rate is as high as it has been since June:

The July and August reports are a bit false. They make us think that inflation is cooling. It is not. But it hasn’t really gotten worse. Since October’s 4.6% is 10 basis points higher than June’s 4.5%, we can once again become the highest inflation rate in 30 years, but the core inflation rate is about 4-4.5%, which is the level it has always been. do not panic.

Driven by the government’s stimulus measures, we have strong demand and supply bottlenecks that have led to soaring prices, especially commodity prices. Some people believe that when these bottlenecks disappear, things will return to normal. Others disagree. Unhedged does not know which party is correct, but in any case does not believe that we have gained too much new information in yesterday’s report.

The best case for fright is based on the housing component of the CPI, which is stable, sticky and large (about one-third of the index). It has risen by 3.5%, and the trend is this:

Part of the problem here is that housing is an asset, not a commodity, and our environment looks a lot like an asset bubble. If you remove the landlord’s equivalent rent (reflecting house prices), the situation will not be so bad. Ordinary old rent inflation is still below pre-pandemic levels:

If housing prices continue to go crazy, rents will eventually follow, but we have not done this yet.

So where we are now: wait to see what happens when the bottleneck is eliminated (including the labor bottleneck, which appears in food far from the housing price, etc.). The former dovish Federal Open Market Committee members are now unlikely to suddenly become more hawkish. Federal Reserve Chairman Jay Powell made it clear that he believes that “temporary” is compatible with inflation, and that inflation will not begin to normalize until the second half of 2022. The temporary team can still say, “We should keep monetary and fiscal policies loose, prices will cool, higher wages will persist, and happiness will soon be everywhere.”

But at present, there is no happiness in all parts of the country because fuel prices are high and real wages are stagnating at best. Nominal wage growth minus inflation, including food and energy (an unstable sequence, unpredictable, but reflecting the world people live in) looks like this:

Vulgar language is guaranteed here.Objectively speaking, this TerribleIf the team is right to be short-lived, then the trend will be reversed, perhaps dramatic, and the journey will be worthwhile. But the economic debate about the type of inflation we see cannot obscure the reality of the chart — and the political reality.This is an tweet From the Senate swing vote Democrat Joe Manchin:

“From all angles, the threat that record inflation poses to the American people is not’temporary’, but is getting more and more serious. From grocery stores to gas stations, Americans know that inflation taxes are real. Washington The economic pain that Americans feel every day can no longer be ignored.”

This is actually wrong. In all respects, inflation has not gotten worse. But it is emotionally accurate. If President Joe Biden’s agenda yielded nothing, now is the time to consider market impact.

Forward-looking guidance fails to deliver on its promise

When the central bank surprised the market, the C word began to fly. “The bank blinked at the interest rate, and now its credibility is in jeopardy,” one of them read title After the Bank of England kept UK interest rates unchanged last week.

Barclays IslamAn article in the Financial Times on Monday stated that the Bank of England may use a method similar to the Fed’s dot plot to protect its credibility-a chart of the Monetary Commission’s expectations for future policy rates. The idea goes like this: if the central bank says they will do something and then do it, the market will believe them next time it speaks. This allows policymakers to influence interest rates just out of empty talk — and possibly interest rates across the yield curve, not just short-term interest rates.

But credibility can only be a by-product of good policies. No matter what the guidance yesterday was, things will change. The important thing is to do the right thing today.This is what the former Fed economist said Claudia Sam give it to me:

“In the final analysis, credibility depends on making the right decision… Frankly speaking, the Bank of England may be deceived to some extent by these data. Likewise, at the end of the day, you should implement what you think is the best policy. . If the world gives you a chance to send a signal, so much the better.”

Our colleague Martin Wolf expressed the same view in an email:

“The wise way to think about this issue is that given its goals, the central bank will actually do what it thought was wise at the time. Unless it is stupid, it will not do what is clearly wrong now, even if it has previously indicated that it might Do something that was thought to be right at the time.”

The central bank really needs two things. A policy framework that is not only sensible but clear enough to allow the market to roughly predict the actions it will take; and the unified, consistent and persistent communication of the framework.

The U.S. Central Bank has recently been very good at communicating its intentions. As a result, we seem to be getting thinner without losing our temper. This is very good, and forms a welcome contrast with the Bank of England. But the Fed’s policy framework is a bit messy. The framework of its average inflation target is vague. As Sam said: “They can’t even agree on what the average is.” This may be problematic soon, point or no point.

Forward-looking guidance may be useful as an internal reference tool. The dot plot may give individual currency committee members a little autonomy, which may make their behavior more responsible. In some lucky situations, guidance may give the central bank some power to adjust the yield curve. But it can only be a weak tool.

There will always be inconsistencies between central bank decisions and market expectations. Below is a chart of the one-year London Interbank Offered Rate, drawn in blue, and drawn in orange compared to the rate expected a year ago (thanks to Edward Al-Hussainy for proposing the chart). These two are agents of what traders think the Fed’s policy will be and what the result will be. Unsurprisingly, the introduction of dot plots in 2012 did not prevent people from placing bets on the behavior of the Federal Reserve:

Point, schmots. Hedge funds are going to be hedge funds. (Wu Yifan)

A good book

Aswas Damodaran About Tesla’s valuation. He is very optimistic about the company’s future, but still believes that the stock is overpriced.

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