Daily Economic Update: March 21, 2024

 Yesterday the FOMC:

• Held their policy rate at 5.25-5.50%
• Raised their growth and inflation projections while keeping their median 2024 projection of rate cuts at 3 cuts.
• The median projection for Fed Funds did increase for 2025, 2026 and in the longer run.
• No changes were made to the balance sheet runoff, but they will likely need to slow the pace of runoff fairly soon.
• Powell was asked if the Fed will tolerate inflation above target for longer, but believes they are making good progress on inflation.  He refused to provide any answer around how long they will tolerate above target inflation, other than they'll get inflation down to target "over time".
• Powell said that the road to 2% will be "bumpy" but they don't really think that the story that inflation is coming back to 2% is changed by recent data.

The conundrum from yesterday's FOMC was that the Fed seems to see better growth and higher inflation over the balance of the year, yet might be willing to cut 3x this year anyway.  The Fed is also apparently willing to cut rates in the face of pretty loose financial conditions.  Ultimately this disconnect likely comes down things like estimates of the neutral rate and how you think about inflation data.  All things we've talked about in post over the past week (and forever).

Of course the Fed will remain data dependent and will judge the balance of risk to both sides of their dual mandate.

Equities were happy, with new all time highs and bond yields were lower across 2s, 5s and 10s.  The 2Y is now sitting around 4.60% while the 10Y is 4.27%.

On the day ahead we get BOE, March Madness begins (noon), Philly Fed, S&P PMI's.

XTOD: Powell has a zillion really good PhD economists slicing and dicing the inflation data, and if they're telling him Jan/Feb uptick is mostly noise, we should all take that on board.

XTOD: While I don’t disagree on the recent data, I recall that his zillion PhDs said to ignore inflation a few years ago.

XTOD: I agree the Fed staff "forecast" does not deserve notably more deference than anyone else's. But their ability to decompose exactly what is driving the data in real time is excellent.

XTOD: Nothing changed. Policy mistake then. Policy mistake today. Fed is gambling on layoffs kicking in full gear and UR going up. That’s not data dependency, that’s hope. And hope is not a strategy. At the first jump in claims, market will revert back to > 6 cuts in a blink.

XTOD: “Financial conditions have tightened significantly over the last year” - Powell 

Someone tell him that Unvaxxed Sperm coin is up 5000% this week.

XTOD: Some people find it very difficult to believe that you can hold these three thoughts in your head:

1. The Fed is making a mistake

2. I can profit from that mistake

3. Even though I can profit from the mistake its still a mistake and bad for society.

XTOD: Dodgers Star Shohei Ohtani’s Interpreter Fired, Accused Of ‘Massive Theft’

https://go.forbes.com/c/t2Sq

XTOD: You can't just walk into Hermès and buy a Birkin bag.  Instead, you need to have a history of buying other Hermès items.   In a class action lawsuit filed today, California consumers say that policy—tying the sale of Birkins to other products—is illegal.

FOMC Recap: What lessons can the Fed learn from March Madness?

 

Let's be realistic, in 24 hours no one is going to be talking about this FOMC meeting, after all tip-off to the round of 64 of the NCAA Men's Basketball Tournament, "March Madness", is less than 24 hours away.  What lessons can the Fed learn from March Madness?

There's just something about March.  Dating back to 44 BC and the assassination of Julius Caesar, March has been associated with turmoil and uncertainty.  Shakespeare's famous line "Beware the Ides of March" certainly continues to portend bad omens in today's popular culture.  Away from ancient Rome, March has indeed had it's share of ominous moments in financial market history, just to name a few: March 2023 saw the failure of Silicon Valley bank, March 2020 saw some of the largest single day moves in rates and stock prices during Covid, March 2011 was the Japanese earthquake and Fukushima disaster, March 2010 was the height of the Greek debt crisis, March 2008 was the collapse of Bearn Stearns...you get the point.  Nevertheless, it's easy to forget the specific dates or even that the aforementioned financial market events all happened in March.

"March Madness", the basketball version, has better marketing and is less forgettable than financial market history. Like the fortuitous events that have occurred in the month of March over history, the NCAA version of March Madness is often filled with unexpected events, upsets and Cinderella stories.  We can remember 16 seeds (UMBC and FDU) upsetting 1 seeds, we can remember Christian Laettner's "The Shot", we can remember the Cinderella runs of N.C. State, Villanova and others, as well as the many future stars who became household names as a result of their play on the biggest stage in college basketball. 

The Fed can learn many lessons from March Madness, including:

• It is impossible to be perfect:  The odds of completing a perfect bracket are a number that is incomprehensible.  The odds that the Fed can steer the economy to perfection by moving an interest rate both gives the Fed too much credit and creates an illusion that something as complex as the economy is that controllable.
• Plans are worthless, but planning is everything (Dwight D. Eisenhower): In Eisenhower's words, "There is a very great distinction because when you are planning for an emergency you must start with this one thing: the very definition of "emergency" is that it is unexpected, therefore it is not going to happen the way you are planning. So, the first thing you do is to take all the plans off the top shelf and throw them out the window and start once more. But if you haven't been planning you can't start to work, intelligently at least.  That is the reason it is so important to plan, to keep yourselves steeped in the character of the problem that you may one day be called upon to solve--or to help to solve."
  Every college coach knows that you have to take in the data, do your homework and come up with a plan to attack your opponent.  In the same vein, every coach knows that their team has to survive the proverbial punch to the face.  The biggest stumbles in March Madness occur when some top seeded team, faces a team that comes out with a different style than expected.  When that higher seed fails to make any adjustments, upsets often follow.  The Fed can learn that sometimes things don't go according to plan, it doesn't mean you shouldn't have watched the film, taken in the data, etc. it means that as you watch the film and take in the data you need to make your plan robust and be willing to revisit and adjust. Just as good coaches call time out and get to make adjustments at halftime, the Fed needs to remember that sometimes what they thought was going to work, doesn't work as planned.   Maybe the Fed should consider this as the take in current inflation data.  Sometimes you have to change your defense to stop the streaky shooter.  Maybe inflation is today's streaker shooter and the Fed needs to step up it's defense. To the Fed's credit they are often very good at making adjustments when it matters most.  

While there are many more lessons the Fed and financial market participants can learn from the NCAA tournament, the primary lesson is one of learning that the future is uncertain, expect the unexpected and that anything can happen.

I'll end there, but if you want a little more on uncertainty, risk management and the parallels to the NCAA tourney, read on...

Daily Economic Update: March 20, 2024

Another Fed Day is upon us. Attention will be focused on the "Dots" to see if the year end 2024 median projected Fed Funds rates will continue to show 3 rate cuts, consistent with the December projections or if the projections will be reduced to only show 2 rate cuts.  The other indicator to be watched is whether the Dots reflect any upwards drift in the Fed's projections of the long-run neutral rate (see yesterday's post). 

The force of the AI revolution is strong, sending stocks higher as yields await the Fed.   The 2Y remains around 4.70% and the 10Y around 4.30% ahead of the Fed. Yesterday, the BoJ's long awaited end to NIRP (negative interest rate policy) came to fruition, along with their end to yield curve control and their end to ETF and REIT buying.  All of this was seemingly already priced into the market, with the Japanese Yen actually weakening to over 150 against the USD. 

I think I'll have a FOMC recap later in the day, so feel free to check back.

XTOD:  NEW: Couple arrested in Florida after passing out drunk on the beach and losing their children.  Some people shouldn't reproduce.  Alyssia Langley and fiancé Timothy Stephens were arrested for child neglect, having alcohol on the beach and trying to escape the police after they were found passed out with no children in sight.  When the couple finally waked up, it became clear that they had no clue where their kids, 5 and 7, were.  After getting handcuffed, Stephens tried running from the police but was quickly stopped.  Luckily, the kids were later found at a hotel pool.

[I mentioned George Selgin's quest to debunk claims that banks create money and need no funding, see here ].  

XTOD: Well, it took a little longer than I had originally planned, but here is my (longish) essay defending the  oh-so passé claim that banks are savings-investment intermediaries against the très chic view that they fund their loans with keystrokes: https://cato.org/sites/cato.org/files/2024-03/working-paper-80.pdf

XTOD: Both MMTs and Rothbardians agree that ordinary banks can and routinely do extend credit without having to acquire and fund their lending with anyone’s real savings.  Now that I’ve given you ample reason to distrust the claim, find out just how wrong it is.

XTOD: This is worth a read for the monetary nerds out there. After the GFC it became popular for some to say banks and governments don't "fund" their spending from income or existing assets. Yes, banks and govts are creators of money, but they also rely on funding their spending.

XTOD: The great conservative insight is that order is really hard to achieve. It's really precious, and it's really easy to lose. — Jonathan Haidt

Daily Economic Update: March 19, 2024

Yields rose and stocks rose yesterday as encouraging data out of China coupled with better than expected home builder sentiment and of course, to make a trifecta you need something "AI" related in the news.  In yesterday's case, the AI related news was that iPhone's may integrate Google's Gemini (yes the same one that everyone was complaining about the other week).  The 2Y and 10Y yield are sitting around YTD highs at 4.74% and 4.33% respectively.

I wrote this before the BoJ, but maybe the day's excitement will be their first hike since 2007.

So while we wait for more exciting things, like the NCAA Tournament, and I guess the FOMC meeting (oh the suspense of the Dots), I thought I'd share some excerpts from recent economic related articles, all of which seem to imply that economist still have no clue about the current state of the economy and whether interest rates are restrictive.

Our first excerpt comes from the BIS and is on the natural rate of interest, r*.  As a reminder "The natural rate refers to the short-term real interest rate that would prevail in the absence of business cycle shocks, with output at potential, saving equating investment and stable inflation. Hence, the natural rate serves as a yardstick for where real policy interest rates are headed. It is also a benchmark for assessing the monetary policy stance “looking through” business cycle fluctuations. It can be conceived of as representing the intercept in a monetary policy rule, as in a “Taylor rule” (Taylor (1993)). Together with the long-run inflation rate, defined by the central bank inflation target, it pins down the long-run level of the nominal policy rate."  Now here's the interesting excerpts which to me ultimately conclude 

• Moreover, and less often appreciated, monetary policy itself could have a non-negligible effect on natural rates and perceptions thereof, through debt accumulation and beliefs about r*. As such, the recent reemergence of upside inflation risks inducing a tighter monetary policy stance going forward may have pushed at least perceptions of r* higher
• The uncertainty around r* estimates at the current juncture is very high
•  Some developments point to r* remaining at low pre-pandemic levels...trend real growth (though AI may boost that), increasing life expectancies.
• However, other developments point to a potential increase in natural rates...dependency ratios are increasing, fiscal deficits ballooned, the adoption of new technology requires increased investment and geopolitical fragmentation could reverse the global savings glut.
• Some recent studies point to the possibility that expansionary monetary policy may raise r*. Long-lasting positive effects on aggregate demand, so-called “hysteresis effects”, could boost innovation and growth
• By contrast, through the interaction with the financial cycle, prolonged expansionary monetary policy could lower r* over long horizons. This is because monetary policy has a major impact on debt and asset price dynamics. Prolonged monetary easing could therefore fuel debt accumulation and financial imbalances. This could push down r* because high debt burdens can weigh heavily on demand
• These findings caution against over-reliance on r* as a guide for monetary policy. The uncertainty surrounding r* suggests that it is a blurry guidepost for assessing the monetary policy stance and hence the tightness of monetary policy, in particular at the current juncture. In this context, it appears advisable to guide policy decisions based more firmly on observed inflation rather than on highly uncertain estimates of the natural rate. 

The second excerpts comes from Brad DeLong's article "The Mystery of US Interest Rates" and also deals with the neutral rate of interest.  Ultimately he concludes that maybe we're wrong about our estimates of the neutral rate.

• Rates today are far higher – around two percentage points – than the level anyone five years ago (before the pandemic) would have estimated the “neutral” rate to be
• An interest rate that everyone considers to be above the neutral level therefore reflects markets’ confidence that a recession – or at least a substantial slowdown – is only a matter of time. When that time comes, all will depend on whether the Fed recognizes the approaching weakness in time to cut rates and achieve a “soft landing.” This interest-rate configuration has now held for seven months.
• I suspect that the Fed is profoundly uncomfortable with interest rates substantially above what it confidently believes the neutral rate to be, especially now that inflation is very close to its 2% target. But it will not dare to shift out of reverse until it sees signs of slower job growth
• Three explanations could clarify the current situation. The conclusion that interest rates are in excess of the neutral rate could be based on an erroneous analysis. Or there could be an error in how we measure the state of the economy. Or, third, the Fed may have committed the Wile E. Coyote error.  Tackling these in reverse order 
• The near-consensus since the start of the pandemic has been that there are powerful fundamental factors keeping the neutral interest rate very low, and that there have been no major changes to those fundamentals. But if there is one lesson that I have learned in more than 40 years of trying to understand the business cycle, it is that there is no empirical regularity in the macroeconomy that can be trusted not to crumble beneath our feet in a remarkably short time.

The third set of excerpts comes courtesy of John Cochrane's post, "Inflation and the Value of Money" dealing with the problems of measuring inflation and the puzzle of explaining the role interest rates have played in slowing inflation.

• If we measured inflation as we did in the 1970s, the recent bout of inflation would have been even higher than the worst of the 1970s! No wonder the deplorables are ungrateful for Bidenomics
• The main difference is that the old measure counts the price and interest rate you have to pay to buy a new house as the cost of the house, while the new measure is based on what it costs to rent a house
• The new way is closer to right, if the question is to measure changes in the cost of living right now for the average person.
• The world isn’t static. The future matters. The right question might be, how much does it cost today to buy my lifetime consumption?...Buying a house locks in the right to live there forever. The cost of a lifetime of housing did go up, though today’s rents did not....If you want to know the cost of providing for a lifetime of consumption, higher asset prices and lower real interest rates mean that cost has risen. The consumer price index asks a different question. The lifetime consumption cost index would be a fun thing to calculate.
• Background:  Inflation came seemingly from nowhere to most analysts. Summers and I think it was perfectly obvious — drop $5 trillion from helicopters and inflation breaks out. For Summers, that’s simple AS/AD: deficit x 1.5 > GDP gap. To me (fiscal theory) it is central that people do not expect surpluses to pay back that debt anytime soon
• The puzzle for standard analysis is that inflation eased just as the Fed started raising rates, long before rates exceeded inflation, and with no recession. Adieu Phillips curve.
• What is the effect of interest rate rises on inflation? Most estimates say inflation goes up gently for a year or two after a rate rise, before falling gently (maybe). In this context, inflation easing one month after the Fed gently started raising rates is nearly miraculous. Talk shifts to “expectations,” somehow this time a few basis points of short rate showed everyone just how tough the Fed would be.
• Conversely, maybe this observation shows a resolution of the “price puzzle” that historic estimates show inflation rising a while after interest rate rises. Maybe that was all spurious, and inflation really does turn around just as interest rates rise. Getting models to generate a delay has been devilishly hard, and to this day most modern (rational expectations, new Keynesian, forward looking) models say that inflation jumps down the minute interest rates rise. Maybe the models are (whew!) right after all.

XTOD:  Being busy is a form of laziness—lazy thinking and indiscriminate action.  Being busy is most often used as a guise for avoiding the few critically important but uncomfortable actions.

XTOD: Calling CRE ‘Manageable’ Is Just Wishful Thinking  @business   Policymakers calling the roughly $1 trillion of commercial real estate debt coming due this year “manageable” may regret it....If today’s CRE situation is anything like the savings-and-loan disaster, we’re in for a lot of trouble. It culminated in the collapse of hundreds of lenders, the insolvency of the Federal Savings and Loan Insurance Corporation — which cost taxpayers many billions of dollars

XTOD: According to the Boston Consulting Group (BCG), data centers currently represent 2.5% of U.S. electricity consumption. [At higher end of estimates], data centers could move to 7.5% of all electricity. >60% of DCs in MISO, CAISO, PJM, & Southeast.

XTOD: This thing that I am unhappy about, is it actually hard to change or is it simply hard to have the courage to change it?

Daily Economic Update: March 18, 2024

FOMC week is upon us; statement, Dots, Powell presser.  With March Madness upon us and the Fed definitely on hold this meeting, I'm not sure anyone actually cares about this meeting.  At least for the week I'll venture that more predictive power will go towards completing NCAA Tournament Brackets than predicting Fed rate cuts.  Perhaps this is a good thing (see my last FOMC recap here).  Much like improbable upsets will bust many people's brackets, inevitably it will be some seemingly unpredictable event (war, pandemic, financial disaster), not the Fed, that will have the most potential to change the future economic path.

The conclusion to a speech by Ben Graham in 1963 may have summed up the challenge

"The investor must recognize that there are uncertain and hence speculative elements in any policy he follows — even an all-Government-bond program. He must deal with these uncertainties by a policy of continuous compromise between bonds and common stocks, and by adequate diversification. (Exception: He may put and keep most of his funds in shares of a promising business with which he is closely connected.) He must make a strong effort to have more money invested in common stocks at lower market levels (at least on the basis of cost) than at what he recognizes to be potentially high levels. Most important, he must maintain a philosophical attitude toward the inescapable variations in his financial position and the inevitable “mistakes” associated with these variations.

According to an old Wall Street story, when a certain broker was asked by a client to recommend issues to buy, he always asked in return, “What is your preference? Do you want to eat well or to sleep well?” I am optimist enough to believe that by following sound policies almost any investor — even in this insecure world — should be able to eat well enough without having to lose any sleep.

Speaking of the Fed, nothing in the inflation data should inspire much confidence for the Fed's battle with inflation.  Since the Fed loves anchored inflation expectations, the NY Fed Survey of Consumer Expectation showing consumers raising their expectations for future inflation at the three and five year horizons is probably concerning.  Away from the hard data, out in the real world (the one where you pay for gas, airfare, lodging, food, insurance, etc.) there still seem to be some rising prices - at least it seems that way to me anecdotally.  

Away from the Fed there will be plenty of other Central Bank activity with the BoJ, RBA, and BoE.  The most exciting of which is likely the Bank of Japan where there is a decently high probability that they end their negative interest rate policy.

On the week ahead:

Monday: nothing major, work on your brackets,  BoJ 11pm

Tuesday:  Housing Starts & Building Permits

Wednesday:  FOMC 2pm

Thursday:, BOE, March Madness begins (noon), Philly Fed, S&P PMI's

Friday:  Powell speaks at a Fed Listens event, but everyone will be watching basketball

XTOD: When James Madison was penning the First Amendment, I wonder if he thought:  "What we really need is a Constitution that protects the right of the Chinese government to spy on millions of Americans and control how they get information"

XTOD: The Atlanta Fed's gauge of sticky inflation has risen to about 5% on a 3-month annualized basis. Inflation is moving in the wrong direction for the Fed, so it's interesting that the market's base case is still that the Fed is going to cut rates by about 100bp by January 2025.

XTOD: My highest-conviction short is BX.  I have a position.

XTOD: Day 3 of 20 on the road talking to financial advisors and family offices about bitcoin.  Some initial take-aways:.....(skipping to #4) 4) One common theme in conversations (which is new compared to past trips) is a visceral concern about rising US debt levels.  Many advisors have clients who are worried about the US fiscal situation, and are using bitcoin as a release valve for that concern. I think the elections may be a catalyst to bring this concern to the forefront of people's minds.

XTOD:  Let me be blunt ...  Why do people use wealth managers?  Because they are rich! What is the wealth manager's main objective?  NOT TO MAKE THEM POOR.   Wealth managers and their customers do not stay awake at night thinking about how to make a killing. They already have. They stay awake at night, worried about losing it.  Understand this mindset before you make up more takes about rich people via their wealth managers FOMO-ing into crypto.  Yes, they will EVANTUALLY put 1% in crypto. But it will take many years and many cycles for this to become a reality.  Right now, I believe we are seeing " weak hands" piling in, such as asset managers trading accounts, small retail wanting to get rich (so they can give it to a wealth manager!), algos, and high-frequency hedge funds.\

XTOD (condensing a long post): We need to talk about Upper Middle Class Families in America  Or, what used to be Upper Middle Class....In most metros, a combined 100+ hours of work/week between the two of them affords them an even better *material* lifestyle than their parents had: nicer cars, bigger home, takeout meals, and better vacations (during which they check email constantly)  

Essentially, this cohort is now *Upper Class* in material goods lifestyle but not in leisure time....  It requires over DOUBLE the amount of working hours per household to get to this materially better but quality-of-life worse place.....We either:  1.  Work all the time, with a spouse who works all the time, to try and capture that elusive slight upward mobility  OR  2.  We pursue balance but fall behind into downward mobility   The end result?    We are collectively exhausted and feel a sense of aching nostalgia for the way things used to be   And our communities and mental and physical health are worse off for it

XTOD: Overcommitment is the enemy of happiness. Embrace the art of doing less. 

XTOD: 10/10 podcast episode with @ShaneAParrish  and Tom Gayner of  Markel.  https://t.co/vKv9vO0d7b

Daily Economic Update: March 15, 2024

 "Every choice has an impact on the Compound Effect of your life."

"Your biggest challenge is that you've been sleepwalking through your choices.  Half the time, you're not even aware you're making them!"

"It's the little things that inevitably and predictably derail your success. Whether they're bone-headed maneuvers, no-biggie behaviors, or are disguised as positive choices (those are especially insidious), these seemingly insignificant decisions can completely throw you off course because you're not mindful of them."

"..our need for immediate gratification can turn us into the most reactive, nonthinking animals around."

"Indulging in our bad habits doesn't seem to have any negative effects at all in the moment....But that doesn't mean you haven't activated the Compound Effect".

-Darren Hardy, various excepts from The Compound Effect originally published in 2010. 

Daily Economic Update: March 14, 2024

 

Experience, in the peculiar sense we teach them to give it, is, by the bye, a most useful word. A great human philosopher nearly let our secret out when he said that where Virtue is concerned “Experience is the mother of illusion”

              

   -C.S. Lewis, The Screwtape Letters (#28) - "Experience is the mother of illusion" is a paraphrase of a quote from Immanuel Kant: "For as regards nature, experience presents us with rules and is the source of truth, but in relation to ethical laws experience is the parent of illusion, and it is in the highest degree reprehensible to limit or to deduce the laws which dictate what I ought to do, from what is done"

Daily Economic Update: March 13, 2024

There's something wrong with the world today
I don't know what it is
Something's wrong with our eyes
We're seeing things in a different way
And God knows it ain't His
It sure ain't no surprise, yeah

We're livin' on the edge
Livin' on the edge

-Aerosmith 1993 Livin on the Edge  (current societal mood is nothing new)