As headline inflation numbers come down, the Fed is going to find it harder to justify high short-term interest rates. Especially if most economic sectors are holding up well in the face of that moderating inflation. Double-especially if the most rate-sensitive sectors of the economy – near and dear to the wealthy – are really starting to suffer. Especially Real Estate.
“Hold the course” only sounds like the smart, disciplined course of action IF you assume someone else – the Labor market – takes the hit. How many Senators are going to stay the course if their (or their donors’) Real Estate holdings are being sacrificed “for the greater good?”
Think yourself out to December 2023. Economic growth is solid. Jobs are plentiful. Wages are going up for the bottom 1/3 of workers (see chart below). Supply chain pressures have faded. Oil and energy are cheaper as the Ukraine war is winding down. The 2024 US election season is heating up. Headline inflation is mechanically trending down towards 3%-4%.
Note the above isn’t too far from where we are today. No miracles required.
We likely also see darker clouds gathering in the economic sky of 2024.
- …Real Estate is starting to buckle under the pressure of high real interest rates.
- …banks are struggling with the pain of a sharply inverted yield curve (short-term rates higher than long-term rates).
Might the Fed find a “data driven” excuse to cut rates? Right now, the Fed is emphasizing non-headline sub-measures of inflation (like “core services”). These measures justify higher rates for longer. But if they change their emphasis, they can declare victory. Heading off an incipient revolt on Capitol Hill and/or from the campaign trail.
The Fed won’t (and doesn’t have to) formally abandon its 2% inflation target. They will just tacitly accept 3%+ inflation while paying lip service 2% inflation target. The Fed has plenty of recent practice with lying about aspirational target-missing. They danced artfully around below-target sub-2% inflation for YEARS during the 2010’s.
Note also that the 2% target is not based on any “hard” science or analysis. There is a decent (economic) argument that 3% would be a better target. More important, the counter-argument (against 3% and for 2%) is grounded more in politics than counter-economics. No serious economist really believes 3% inflation would be much worse or even much different from 2%.
Neat chart below I might blog about later: Low-wage people have made out fairly well since 2020. High wage people? Not so much.
