US Fed gathers again for inflation guessing game

Today, Wednesday, the great and the good of the Federal Open Markets Committee (FOMC) will be converging on Washington for their two-day convocation to decide where Fed Funds will be pegged until the next meeting. The verdict will be accompanied by a brief statement which should in turn give an indication of what the committee’s thinking is in terms of the outlook for jobs, growth and inflation. The statement is conventionally very dry, no more than 500 words long and its impact is conventionally not in what it says but in the way in which the wording has changed from the previous statement.

And yet millions of words have been written by hundreds of commentators – guilty as charged – about what it might be set to tell us or what Chairman Powell might impart in the post-meeting briefing. In essence and with a 95%+ probability, the outcome is binary. Either the FOMC raises the Fed Funds rate by 75bps and indicates that it will continue on the same trajectory, or it raises the rate by 75bps and indicates that it might slow the pace of monetary policy tightening. In neither of these situations does the process of pivoting come into it. To pivot means to turn and in Webster’s dictionary it is, amongst other things, described as “the officer or soldier upon whom the different wheelings are made in the various evolutions of the drill.” Students of military history in general and of the American Civil War in particular will be drawn to the image of Joshua Lawrence Chamberlain and the 20th Maine in action at Little Round Top during the Battle of Gettysburg.

So, if pivoting is turning and when even the most optimistic can as yet not see a point when the Fed will actually turn and begin to bring rates back down again, why all the fuss? Bloomberg News this morning presented us with a little vignette of short bursts of a couple of dozen economists who, if one aggregated what they had to say, presented us with nothing but white noise. Then up pops, as ever, the ubiquitous Professor Lawrence Summers. Summers served as Treasury Secretary under Bill Clinton and then went on to become President of Harvard. He is now one of the top “go to” guys when opinion on Fed policy is sought. He is all over the headlines this morning for having poured a large canister of cold water over the imbeciles who are, with gay abandon, tossing around the word “pivot” without knowing what it means but who are actually expressing their expectation that the end of the tightening cycle is just around the corner.

Not that Professor Summers can necessarily see any deeper into the soul of the FOMC than the rest of us, but he does like to point out that until the inflation beast is wrestled to the ground, the Fed would be well advised to lower neither its sword nor its shield. Thus, he said in an interview with CNN: “I look at economic history and I see that there are many times when the Fed didn’t do enough and so inflation re-accelerated, but I can’t find any times in the last 60 years when the Fed did too much…” When pressed on what he saw to be the appropriate “terminal rate”, he suggested 5.5%. That’s well ahead of the 4.75% proposed by the Big Three of Goldman Sachs, JP Morgan and Morgan Stanley.

The fact is that nobody knows and for all intents and purposes the voting members of the FOMC probably enjoy no more clarity on what lies ahead than any of us. We all know how badly wrong the Fed and the Treasury under former Fed Chair Janet Yellen got it when it came to predicting the current surge in inflation. Of course, everybody else was so much cleverer and got it perfectly right which is why markets retreated early and in an organised fashion. Dream on! The Fed boils its eggs in the same water and for just as long as we do and although it can no better than most read the crystal ball, it is somehow expected to get all its decisions right, only then to be derided as incompetent and stand accused of lacking credibility if it doesn’t.

Sure, it is now tarred and feathered with its insistence that inflation was only going to be transitory but how was it to know that Vlad the Invader was about to launch a poorly prepared army into a much smaller country which refused to be taken over in a coup de main, that global energy and food supplies were about to be disrupted, that President Xi was going to keep his people in Covid purgatory and that lots of putative allies of the United States which for several generations had taken America’s money and recurring debt relief were going to show Uncle Sam the bird and turn their back on globalisation? Warren Buffet’s legendary observation that it’s only when the tide goes out that one discovers who has been swimming without shorts has in the past eight months proven to apply to politics just as much as it does to markets.

I saw a flash on the TV screen this morning: “Pivot expectations fading”. Apart from the fact that next to nobody who says pivot actually means pivot – I think that by now I should have beaten that point into submission – it might be that Larry Summers’ view is beginning to get through. He went on: “Even if there is a downturn or recession, I don’t think there’s any reason to think that the Fed has any real prospect of pushing inflation durably below 2% without a lot more action…” What he failed to add is that inflation cannot be suppressed by tighter monetary policy until the key central bank rate is higher than the rate of inflation itself. Sauce for the goose is sauce for the gander and the Bank of England which has its MPC meeting tomorrow – and the ECB which has just tightened by 75 bps with more to come – must also be thinking thoughts along the same lines.

US October CPI is due to be released next week. Alas, the magic number is not where inflation will peak but where it will be, say, twelve months hence. It might still be five months until February and the first anniversary of the Ukraine War, but it will be then that some of the base effects of the spike in both food and energy prices will begin to be flushed out of year over year inflation numbers, even if the inflated prices don’t retreat. If they do, however, begin to fall and even if they go back by a little bit and to nowhere near as low a level at which they were at the beginning of 2022, in statistical terms they are, nevertheless, disinflationary.

Whether or not the Fed and its peers are on the right track when aiming to bring inflation back down to 2% is a different matter entirely. I think they are wrong and have insisted that a slightly more flexible approach to a target level for inflation might be constructive. Thus, it was that one reader forwarded to me a piece from Zerohedge – always a good read, albeit never to be taken as gospel – which suggested 3% to be a good number to be targeting. Rather than obsessing about the Fed pivoting or pirouetting or dancing a fandango, markets should be focussing on the possibility of a gentle loosening of the rigid inflation target. That would be a proper pivot which would most probably have a significant and positive impact on not only markets but on the economy as a whole and do much to restore fading investment intentions.

Lula is the future once more

Meanwhile, Luiz Inácio Lula da Silva, known mononymously as Lula, has taken the Brazilian presidentials and although he has followed his mentor Donald Trump, and has not formally conceded, the defeated Jair Bolsonaro has stepped back and is co-operating in the handover of power. I well recall Lula’s first campaign in 2002 as a firebrand socialist and the fears we all had for the wellbeing of the country. Against expectations, his social and economic reforms were not in the vein of nationalisation and collectivisation and Brazil enjoyed a period of growth and stability. True to Brazilian form, however, eventually Lula got swept up by allegations of corruption and ended up deselected and jailed. On a legal technicality and no more he was released on appeal.

Brazil, I was once told by an English girlfriend who had grown up not in Rio or Sao Paulo but in a medium-sized backwater in the sugar cane belt, is the country of the future and it always will be. It is a country of huge potential, much of which has been wasted during the Bolsonaro years. How much needs to be set right again and how much of that can be achieved by Lula is moot. The many demonstrations which have taken place in the past few days should remind enthusiastic observers that Lula only won by a whisker and that the country remains split right down the middle. The outcome is not dissimilar to that of the 2020 US Presidentials, albeit that Bolsonaro, despite having “done a Trump” by announcing before the elections that if he were to lose, it would be because the voting machines were rigged, has kept his counsel and Lula is not Biden. I have a good feeling and can only hope that Bolsonaro doesn’t feel tempted to encourage a January 6th style response ahead of his formal handing over of power to Lula on New Year’s Day.