Failure To Bury “Transitory” Inflation Narrative Risks Sparking Biggest Fed Error In Decades: El-Erian Warns
Failure on the part of the Fed to toss its stubbornly-held “transitory” inflation narrative and act more decisively to rein in persistently high price pressures raises the likelihood the central bank will need to slam on the brakes of easy money policies much more forcefully down the road, risking avoidably severe disruption to domestic and global markets, according to Queen’s College President and economist Mohamed El-Erian.
“In stark contrast with the mindset of corporate leaders who are dealing daily with the reality of higher and persistent inflationary pressures, the transitory concept has managed to retain an almost mystical hold on the thinking of many policy makers,” El-Erian wrote in an Oct. 25 op-ed in Bloomberg.
“The longer this persists, the greater the risk of a historic policy error whose negative implications could last for years and extend well beyond the U.S.,” he argued.
Consumer price inflation is running at around a 30-year high and well beyond the Fed’s 2 percent target, to the consternation of central bank policymakers who face increasing pressure to roll back stimulus, even as they express concern that the labor market hasn’t fully rebounded from pandemic lows.
The total number of unemployed persons in the United States now stands at 7.7 million, and while that’s considerably lower than the pandemic-era high, it remains elevated compared to the 5.7 million just prior to the outbreak. The unemployment rate, at 4.8 percent, also remains above pre-pandemic levels.
At the same time, other labor market indicators, such as the near record-high number of job openings and an all-time-high quits rate—which reflects worker confidence in being able to find a better job—suggest the labor market is catching up fast. Businesses continue to report hiring difficulties and have been boosting wages to attract and retain workers. Over the past six months, wages have averaged a gain of 0.5 percent per month, around twice the pace prior to the pandemic, the most recent jobs report showed.
Besides measures of inflation running hot, consumer expectations for future levels of inflation have hit record highs, threatening a de-anchoring of expectations and raising the specter of the kind of wage-price spiral that bedeviled the economy in the 1970s. A recent Federal Reserve Bank of New York monthly Survey of Consumer Expectations showed that U.S. households anticipate inflation to be 5.3 percent next year and 4.2 percent in the next three years, the highest readings in the history of the series, which dates back to 2013.
El-Erian, in the op-ed, argued that the Fed has “fallen hostage” to the framing that the current bout of inflation is temporary and will abate once pandemic-related supply chain dislocations will abate.
“It is a framing that is pleasing to the ears, not only to those of policy makers but also those of the financial markets, but becoming harder to change,” he wrote.
“Indeed, the almost dogmatic adherence to a strict transitory line has given way in some places to notions of ‘extended transitory,’ ‘persistently transitory,’ and ‘rolling transitory’—compromise formulations that, unfortunately, lack analytical rigor given that the whole point of a transitory process is that it doesn’t last long enough to change behaviors,” he wrote.
El-Erian said he fears that Fed officials will double down on the transitory narrative rather than cast it aside, raising the probability of the central bank “having to slam on the monetary policy brakes down the road—the ‘handbrake turn.’”
“A delayed and partial response initially, followed by big catch-up tightening—would constitute the biggest monetary policy mistake in more than 40 years,” El-Erian argued, adding that it would “unnecessarily undermine America’s economic and financial well-being” while also sending “avoidable waves of instability throughout the global economy.”
His warning comes as the Federal Open Market Committee (FOMC)—the Fed’s policy-setting body—will hold its next two-day meeting on November 2 and 3.
The FOMC has signaled it would raise interest rates sometime in 2023 and begin tapering the Fed’s $120-billion-a-month pandemic-era stimulus and relief efforts as early as November.
Some Fed officials have said that, if inflation stays high, this supports the case for an earlier rate hike. Fed Governor Christopher Waller recently suggested that the central bank might need to introduce “a more aggressive policy response” than just tapering “if monthly prints of inflation continue to run high through the remainder of this year.”
“If inflation were to continue at 5 [percent] into 2022, you’ll start seeing everybody potentially – well, I can’t speak for anybody else, just myself, but – you would see people pulling their ‘dots’ forward and having potentially more than one hike in 2022,” he said in prepared remarks to Stanford Institute for Economic Policy Research.
The Fed’s dot plot (pdf), which shows policymakers’ rate-hike forecasts, indicates half of the FOMC’s members anticipate a rate increase by the end of 2022 and the other half predict the beginning of rate increases by the end of 2023.
For now the market is pricing in a more hawkish Fed response in 2022
Why Bitcoin Crashed This Weekend, and What Crypto Investors Should Do Next
It’s been a rough few days for cryptocurrency investors.
The cryptocurrency market had a rough weekend.
Bitcoin’s price plummeted more than 20% at one point on Saturday, then recouped some of its losses during what turned into a rollercoaster of a few days. As of Monday at midday, the price sat at about $49,000 per coin, far below the $68,000 per coin we saw just last month.
The prices of other cryptos, like Ethereum, Cardano and Dogecoin, also fell.
The stock market experienced a sell off last week after comments from the Federal Reserve that indicated it may end support for the economy sooner than many hoped, and growing concerns about the Omicron variant of COVID-19.
Why is the crypto market falling?
Last week, Fed Chair Jerome Powell signaled during the Senate Banking Committee that the central bank could pull its economic support more quickly as inflation concerns run high. This, on top of fear of the new Omicron variant of the coronavirus, had investors concerned.
The crypto market stayed relatively stable throughout most of the week despite stock prices falling, but apparently many investors in Bitcoin and other cryptos felt worried enough over the weekend to sell.
“The market isn’t mature enough yet to survive major selling so you will continue to see flash crashes,” says Matthew Tuttle, chief executive at Tuttle Capital Management.
Bitcoin advocates tend to argue that the digital asset is not closely correlated to other assets, like stocks, and so it can therefore act as a safe haven during market sell offs. But the recent plummet shows that may not be the case.
“When investors are scared, speculative risk assets can be the first markets to be hit hard,” says Giles Coghlan, chief analyst at HYCM.
Cryptocurrency is certainly a speculative market.
What should Bitcoin investors do?
The crypto market is no stranger to volatility. Bitcoin hit a high just below $65,000 per coin in mid-April before plunging over 50% by July due to several factors including news from Tesla and the Chinese government. By October, the price was back to a new high over $66,000.
If you think you can stomach the volatility and want to invest a small amount in Bitcoin, make sure you are going to hold onto it for a longer period of time, and not want to sell when the price drops and you get worried, Anjali Jariwala, certified financial advisor and founder of FIT Advisors, previously told Money.
“You have to be comfortable with having that money potentially go away,” she added.
Crypto will continue to be volatile, Tuttle says. So if you’re planning to buy in, now’s not the time.
“Wait until the trend shows signs of moving up,” Tuttle says.
But if you do decide to buy in, keep in mind that financial advisors recommend only investing a small amount of your portfolio in risky investments like crypto — 5% of your overall portfolio at most.
More from Money:
Back into positive territory
Stock markets are off to a positive start to the week in Europe and the US, in keeping with the price action we’ve seen over the last week since the…
Stock markets are off to a positive start to the week in Europe and the US, in keeping with the price action we’ve seen over the last week since the new variant discovery.
Reports of the Omicron symptoms being less severe are boosting risk appetite but it’s too soon to get carried away. For one, we’ve seen this repeatedly since the initial news broke a little over a week ago. Markets have been very headline-driven and this is just the latest rally on the back of some positive reports.
While this may be the first in a slew of positive data around the new variant, it could also be the anomaly and what follows could explain why world leaders and various agencies have been so anxious. Let’s hope for the former but I expect extreme caution to remain until the data gives us cause for more optimism.
Weeks like this, the economic data would always play second fiddle but as it turns out, it’s looking a little thin on that front and central banks are in the same position as the rest of us. So the rest of the week will remain very Omicron headline-driven which will likely mean plenty more volatility.
By then, we may know a lot more which means the conversation can move on to the monetary response. Unfortunately, that comes too late for the RBA and BoC tomorrow and Wednesday, respectively, and perhaps just in time for the Fed, ECB, and BoE next week. If the news isn’t good on the variant then central banks are going to find themselves in an awful position, which could rock the boat somewhat.
Bitcoin partly recovers after crash
Bitcoin has had an eventful few days, having been pummelled on Saturday before recouping much of those losses. Whatever the cause of the flash crash, it hasn’t managed to fully reverse the losses and remains below USD 50,000. That could leave it vulnerable in the near term, especially with it struggling to track other risk instruments higher on the day. Bad news on Omicron could really put it under pressure.
For a look at all of today’s economic events, check out our economic calendar: www.marketpulse.com/economic-events/
Business As Usual Despite Omicron
Investors hoping that Friday’s release of the November…
“Business As Usual” Despite Omicron?
By Jane Foley, head of FX strategy at Rabobank
Investors hoping that Friday’s release of the November US labor market would be a simple tick-box exercise for the Fed’s move towards policy normalisation were likely disappointed. The headline non-farm payrolls report at 210K was only about half what the market had expected it to be, though the shock of this number was lessened by talk of a potentially unreliable seasonal adjustment in addition to a strong set of data from the household survey. The latter showed a sharp drop in the unemployment rate to just 4.2% in November. For many this will have been sufficient for the Fed to continue preparing to announce a hastening in the pace of tapering of its bond buying program at the December 14/15 FOMC meeting. After a volatile fortnight on the back of fears of a more hawkish Fed, the Nasdaq closed down 1.92% on Friday. While Asian stocks this morning mostly followed US stocks lower, futures are showing signs of resilience.
Despite the confusion surrounding the economic implications from the Omicron variant, Fed Chair Powell and other FOMC members had suggested a ‘business as usual’ approach to policy last week by suggesting that a hastening in the pace of QE tapering very much remained on the cards. The fact that the market consensus for this week’s US November CPI inflation release stands at a eye-watering 6.7% y/y will be seen by some as an endorsement of the Fed’s hawkish tone.
That said, the IMF has warned of growth risks stemming from Omicron and other central banks seem prepared to take a more cautious approach. The BoE’s Chief hawk Saunders, who voted for a rate hike in November, suggested on Friday that he would like more information on Omicron before deciding how to vote on policy next week. The UK money market has backed away from fully pricing in a BoE rate hike for December, though a February move is still on the cards. Both the BoC and the RBA are due to meet this week and steady policy is expected from both. Omicron is likely to provide the RBA with further reason to extend its already dovish position. That said, the strong rise in Canadian employment in November is feeding speculation that the BoC could bring forward rate hikes, with April being touted by commentators as a possible start date for policy tightening.
There have been various headlines in recent days in a slew of countries about additional restrictions being put in place in an effort to slow the transmission of Covid. Over the weekend police in Belgian used water cannon and tear-gas to disperse violent protests against fresh restrictions. Germany last week announced social curbs on the unvaccinated while Greece introduced fines on the over-60s who refuse to be jabbed.
As evidenced by the protests, none of this sits comfortably in liberal democracies with some premiers, such as UK PM Johnson, likely very nervous of a backlash from any further fresh restriction. Omicron has now been detected in seventeen EU countries and US data suggest that Omicron has spread to around one–third of US states, though Delta remains the dominant variant. Encouraging there have been several press reports indicating that while Omicron may increase the risk of transmission, the symptoms may be milder. This view was endorsed by US infectious disease official Fauci over the weekend who commented that “thus far it does not look like there’s a great degree of severity to it.” That said, S. Africa is preparing its hospitals for more admission, though its low vaccine rollout rate will be a factor.
Bitcoin took a tumble over the weekend as profit-taking picked up momentum. Gold found support on the fall back in longer term bond yields and oil prices picked up some support after Saudi Arabia raised prices for crude sold to Asia and the US. No real progress appears to have been made on reviving the nuclear deal between the US and Iran.
President’s Biden and Putin will speak via video call on Tuesday amid mounting tensions over Ukraine. This follows reports from US Secretary of State that there was evidence that Russia had made plans for a ‘large scale’ attack on Ukraine. It is expected the Biden will reaffirm US support for the sovereignty and territorial integrity of Ukraine. Bloomberg news have reported that over the weekend there was a ‘testy exchange’ between US Secretary of State Blinken and Russian Foreign Minister Lavrov over Ukraine with the former recapping events in 2014 when more than 100 people participating in a peaceful protests were killed.
Evergrande is back in the headlines this morning following a statement from the Chinese property developers on Friday saying that creditors had demanded USD260 million and that it could not guarantee enough funds. Chinese government officials summoned Evergrande’s Chair and the PBoC has stepped up its criticism of the company accusing it of ‘poor management’ and pursing ‘blind expansion’. Reports in Chinese state media that Beijing will cut banks’ reserve requirement ratio ‘in a timely way’ lent a little support to mainland Chinese blue chips overnight
A decidedly weak -6.9% m/m print for October Germany factory orders this morning is a sharp reminder of the headwinds facing the Eurozone’s largest economy. Tomorrow, German ZEW survey data is also expected to soften. Key UK data this week includes monthly GDP data and production numbers for October. In addition to the November CPI inflation data, the US calendar also includes the December Michigan confidence survey. Ahead of next weeks Fed, ECB, BoE and BoJ policy meetings little additional direction can be expected from central bankers leaving more room for investors to seek clues from this week’s BoC and RBA policy meetings.
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