The Labor Department’s consumer price index surged 5% year-over-year in May, the largest increase since August 2008 when oil was $140 a barrel. But don’t worry, Americans. The Federal Reserve says inflation is “transitory” and that it has the tools to control prices if they start to spiral out of control. Let us pray.
Nobody should be surprised that prices are increasing everywhere from the grocery store to the car dealership. Demand is soaring as the pandemic recedes while supply constraints linger, especially in labor and transportation. As always, this is a price shock largely made by government. Congress has shovelled out trillions of dollars in transfer payments over the past year, and the Fed has rates at zero while the economy may be growing at a 10% annual rate.
The personal savings rate in April was 14.9%, double what it was before the pandemic. Record low mortgage interest rates have enabled homeowners to lower their monthly payments to burn more cash on other things. Congress’s $300 unemployment bonus and other welfare payments for not working have contributed to an enormous worker shortage, which is magnifying supply shortages.
All of this is showing up in higher prices. Over the last 12 months, core inflation excluding food and energy is up 3.8% and much more for used cars (29.7%), airline fares (24.1%), jewelry (14.7%), bikes (10.1%) and footwear (7.1%). Commodity prices from oil to copper to lumber have surged. Higher lumber prices are adding $36,000 to the price of a new home.
The Fed has embarked on a massive expansionary quest in recent years. In 2020, total Reserve Bank assets rose from $4.2 trillion to $7.4 trillion amidst the pandemic and related government lockdown and fiscal “stimulus” policies. That was roughly three times the extraordinary growth in the consolidated balance sheet for the Reserve Banks in the 2008-2009 financial crisis. And in the latest weekly “H.4.1” release, total assets were up to $7.8 trillion – rising about a hundred billions dollars a month so far this year.
Today, short and long-term interest rates on government bonds rest near historic lows, important in part because the Fed massively expanded its purchases of government bonds. But low interest rates can’t be taken for granted, particularly if we get significantly higher inflationary expectations — which appear to have begun to sprout in recent weeks.
If we get significantly higher interest rates for that reason, the Reserve Bank balance sheet impact from losses on securities assets would arrive if the losses become “realized” – a realistic prospect if the Federal Reserve reverses course and starts selling off securities as a means of conducting monetary policy amidst higher inflationary expectations.
Governments “don’t have to pay off their debt like a household does,” said Louise Sheiner, policy director for the Hutchins Center on Fiscal and Monetary Policy at the Brookings Institution. “They can just keep rolling it over. They’re never going to go out of business and have to pay all at once.”
State and local liabilities can also be likened to the federal government’s deficit and debt, Sheiner said in an interview with MarketWatch. Most economists think that as long as those numbers stay constant as a share of the economy, it’s not problematic.
Illinois? borrowing through the Federal Reserve?s Municipal Liquidity Facility provided a lifeline for critical services during the COVID-19 pandemic, so the state should be allowed to use its incoming federal coronavirus relief money to pay it off, Comptroller Susana Mendoza tells the federal government.
The state?s $3.8 billion of short-term borrowing, including $3.2 billion through the Federal Reserve?s Municipal Liquidity Facility ?was essential for the continued performance of government services during the most fiscally challenging times for the state?s cash flow during the pandemic, all directly related to the COVID-19 crisis,? Mendoza wrote in a letter to Treasury Secretary Janet Yellen.
?We want to promptly repay federal taxpayers for the crucial help they provided us during the pandemic,? wrote Mendoza, the elected constitutional officer who manages state debt, pension, and bill payments. The state?s updated American Relief Plan share is $8.1 billion.
Mendoza fired off the letter Wednesday, two days after the release of a 151-page guidance on how states, local governments, and tribes can spend their shares of the $350 billion Coronavirus State Fiscal Recovery Fund and the Coronavirus Local Fiscal Recovery Fund that?s built into the American Rescue Plan.
The guidance imposes a sweeping ban on using funds to cover principal and interest repayment, even when the borrowing was directly related to the COVID-19 crisis.
Given that Class A directors are explicitly bankers elected by bankers, it is perhaps unsurprising to see their predominance. But a trend since roughly 1980 includes a substantial and growing number of non-banking finance representatives as the third-most represented single group, after banking and manufacturing. The influence of finance on the Reserve Banks’ governance remains very strong, even among the classes of directors meant to represent other interests.
The Federal Reserve said it was ending a yearlong reprieve that had eased capital requirements for big banks, disappointing Wall Street firms that had lobbied for an extension.
Friday’s decision means banks will lose the temporary ability to exclude Treasurys and deposits held at the central bank from lenders’ so-called supplementary leverage ratio. The ratio measures capital — funds that banks raise from investors, earn through profits and use to absorb losses — as a percentage of loans and other assets. Without the exclusion, Treasurys and deposits count as assets. That will likely force banks to hold more capital or reduce their holdings of those assets, both of which could ripple through markets.
Analysts have been keying on the issue, which is widely viewed on Wall Street as carrying potential implications for markets from bonds to stocks to commodities.
There are eerie parallels today. In 1973, the U.S. was coming off a two-year experiment in wage and price controls, which artificially depressed prices and muted signals that the economy was overheating. Then, too, the Fed pursued an easy-money policy, keeping interest rates low — though considerably higher than now, and without today’s purchases of bonds and mortgage securities.
By the end of 1972, before the inflationary jump, the U.S. economy seemed even stronger than it is now, growing at an annual rate of more than 8%. Unemployment was down to 3.4%, and inflation was a seemingly manageable 5.6%. The pre-pandemic 2020 U.S. economy was also very strong, growing at a 3% annual rate, with historically low unemployment of under 4% and inflation hovering around only 1%.
In 2021 we’re emerging from the pandemic shutdown, which cratered growth and slammed the economy — depressing price pressures, not unlike what the price-control program did 50 years ago. Today’s Fed policies are even more expansive. And Congress has just enacted a $1.9 trillion stimulus bill — on top of earlier relief bills costing another nearly $2 trillion, a lot of which remains unspent and will continue to fuel demand this year and beyond.
Indeed, Brainard writes, “If, in the future, inflation rises immoderately or persistently above target, and there is evidence that longer-term inflation expectations are moving above our longer-run goal, I would not hesitate to act and believe we have the tools to carefully guide inflation down to target.” It matters that people believe this, even if the actions cause immense short-term pain. Do people still believe the Fed has that will? Do people believe that the Treasury Department and Congress have the parallel will to take fiscal steps to contain inflation if it should come?
Does the Fed really have the tools to do it? I am doubtful. For ten years, interest rates were zero. (Interest rates were either too high or too low, depending on your view of things, but stuck at zero in any case.) For ten years, the Fed ran massive quantitative easing after quantitative easing. Inflation just sailed along slightly below 2 percent. This episode suggests the Fed has a lot less power than it thinks. But that is also a cheery view, as if the Fed’s interest-rate and bond-purchase tools are relatively powerless, then not much of what the Fed is doing will cause inflation either. In the current economy, fiscal policy and fiscal anchoring seem the greater danger to inflation than even the monetary mistakes of the 1970s.
To hear it from liberal economists, progressive activists and Democratic politicians, there is no longer any limit to how much money government can borrow and spend and print.
In this new economy, we no longer have to worry that stock prices might climb so high, or companies take on so much debt, that a financial crisis might ensue. In this world without trade-offs, we can shut down the fossil fuel industry and transition to a zero-carbon economy without any risk to employment and economic growth. Nor is there any amount of infrastructure investment that could possibly exceed the capacity of the construction industry to absorb it.
Rest assured that the economy won’t miss a beat no matter how far or fast the minimum wage is raised. And whatever benefits are required by the always struggling middle class can be financed by raising taxes on big corporations and the undeserving rich.
Large U.S. lenders saw their loan books shrink in 2020 for the first time in more than a decade, according to an analysis of Federal Reserve data by Jason Goldberg, a banking analyst at Barclays. The 0.5% drop was just the second decline in 28 years.
Bank of America Corp.’s loans and leases dropped by 5.7%. Citigroup Inc.’s loans dropped by 3.4% and Wells Fargo & Co.’s shrank by 7.8%. Among the biggest four banks, only JPMorgan Chase & Co. had more loans at the end of the year than the start.
Lenders are flush with cash that they want to put to use, and executives say they are hopeful loan growth will pick up in 2021. Brisk lending typically suggests there is enough momentum in the economy to give companies and consumers the confidence to borrow. But the current weakness suggests questions remain about the vigor of the economic recovery.
Yields on most U.S. government bonds fell Monday, showing further signs of stabilizing after soaring to multi-month highs last week.
The yield on the benchmark 10-year Treasury note settled at 1.444%, according to Tradeweb, down from 1.459% Friday.
Shorter-dated yields also headed lower, in a reversal from last week when investors bet that the Federal Reserve will start raising interest rates earlier than previously anticipated in response to an expected burst of economic growth and inflation.
The five-year yield settled at 0.708%, from 0.775% Friday. Yields fall when bond prices rise.
A wave of selling during the past two weeks drove the yield on the benchmark 10-year Treasury note, which helps set borrowing costs on everything from corporate debt to mortgages, to above 1.5%, its highest level since the pandemic began and up from 0.7% in October.
Traders said concerning dynamics were evident in a Treasury auction late last week. Demand for five- and seven-year Treasurys was weak Thursday heading into a $62 billion auction of seven-year notes and nearly evaporated in the minutes following the auction, which was one of the most poorly received that analysts could remember.
The seven-year note was sold at a 1.195% yield, or 0.043 percentage point higher than traders had expected — a record gap for a seven-year note auction, according to Jefferies LLC analysts. Primary dealers, large financial firms that can trade directly with the Fed and are required to bid at auctions, were left with about 40% of the new notes, about twice the recent average.