Previous post Next post

Non-Transitory Meandering

Monetary officials continue to maintain that inflation will eventually meet their 2% target on a sustained basis. They have no other choice, really, because in a monetary regime of rational expectations for it not to happen would require a radical overhaul of several core theories. Outside of just the two months earlier this year, the PCE Deflator has missed in 62 of the past 64 months. The FOMC is simply running out of time and excuses.

That is very likely why earlier this week Federal Reserve Chairman Janet Yellen admitted that economists like her and her fellow policymakers might not really understand inflation. The larger, more important implication is that if they don’t comprehend inflation they can’t really comprehend money, either. It has taken seventeen years, but we are finally getting closer to reconciling with what Alan Greenspan was talking about in June 2000:

CHAIRMAN GREENSPAN. The problem is that we cannot extract from our statistical database what is true money conceptually, either in the transactions mode or the store-of-value mode. One of the reasons, obviously, is that the proliferation of products has been so extraordinary that the true underlying mix of money in our money and near money data is continuously changing. As a consequence, while of necessity it must be the case at the end of the day that inflation has to be a monetary phenomenon, a decision to base policy on measures of money presupposes that we can locate money. And that has become an increasingly dubious proposition. [emphasis added]

PCE Deflator Inflation, Jan 2016 - Aug 2017

(see more posts on inflation, )
PCE Deflator Inflation, Jan 2016 - Aug 2017

- Click to enlarge

If you can’t “locate” money, you can’t locate inflation. Not for lack of trying, of course, but officials have been forced to increasingly ridiculous means to distract from the only real possibility. They started with the oil price crash being “transitory” and have kept up the use of the same word, only shifting it from one excuse to the next. The last has been unlimited wireless data plans, a huge deflationary positive for consumers (like oil prices) that suggests maybe things aren’t so well for consumers (like oil prices).

The updated estimate for the PCE Deflator in August 2017 was 1.43%. Despite a large contribution from gas and energy prices that boosted the CPI, indicated consumer price inflation here was basically unchanged from the last two months. In fact, the rate of growth has settled down right about where we thought it would going back to last autumn; the predictable contribution, and then withdrawal, of oil price base effects largely concluded.

Inflation Indices, Jan 2015 - Jul 2017

(see more posts on inflation, )
Inflation Indices, Jan 2015 - Jul 2017

- Click to enlarge

To further check the FOMC’s hypothesis about transitory one-off factors explaining the continuing miss, the BEA estimates a “core” inflation rate for the deflator, stripped of energy and food prices that often prove to be more volatile on a short-term basis. And if that isn’t enough, the Dallas Fed calculates a trimmed-mean for the index to try to separate some of the noise from what might be considered the more important basis for any price momentum one way or the other.

PCE Chain-type Price Index, Jan 2012 - Jul 2017

(see more posts on Price Index, )
PCE Chain-type Price Index, Jan 2012 - Jul 2017

- Click to enlarge

 Unfortunately for Janet Yellen, both of these suggest the wrong thing is taking place this year. In each “core” version, they are once more falling and rather significantly. Since the price data shown here matches up well with economic statistics describing the same slowing economic momentum, it doesn’t look good for the mainstream view.

US Retail Sales, Jan 2014 - 2017

(see more posts on U.S. Retail Sales, )
US Retail Sales, Jan 2014 - 2017

- Click to enlarge

The trimmed mean deflator throws out any components that are outliers, which means they stack every component on a monthly basis and eliminate the highs and lows so that what is left is the non-volatile middle/majority. The benefit of such a calculation is that unlike the other which always eliminates food and energy prices, the trimmed mean approach can be more flexible in narrowing down what might be skewing the index in either direction.

That would include wireless data and telephone services. In other words, the trimmed mean doesn’t consider the most recent commonly cited justification for the misbehaved performance of the inflation indexes – and it is still moving downward anyway.

Not only that, they are doing so in a way that is entirely too familiar, reminiscent of just a few years ago when we were treated to much the same spectacle (though, admittedly, it isn’t nearly as dramatic now as during the oil crash).

Domestic and Foreign (Assets), Q1 2007 - 2017

Domestic and Foreign (Assets), Q1 2007 - 2017

- Click to enlarge

Again, you can begin to appreciate just why Janet Yellen’s adherence to orthodox inflation dogma has loosened to some degree of late. There just isn’t any indication that the unemployment rate matters even a little, and that instead all the things Alan Greenspan wondered about seventeen years ago really do. The Fed may still hike rates and runoff or even selloff its balance sheet, but so what? None of that matters, as if we needed any more evidence.

Disposable Personal Income, Jan 1985 - 2017

(see more posts on disposable personal income, )
Disposable Personal Income, Jan 1985 - 2017

- Click to enlarge

To try to explain it better, I’ll reprint here the analogy I used earlier today in the context of a more thorough and historical analysis (the significance of 1923) as to why that is:

There aren’t any good analogies to break this down in simple terms, but I’ll attempt one anyway. Imagine the Fed as the only filling station in town in 1923, and that it discovered it could affect how much you drive by changing the quantity of gas it sells as well as its price (because it makes its own gasoline at negligible cost, the quantity and price are not related except by the sales policy).

 

If it restricted how much it would sell while also raising the price, if you really wanted to buy it because you really needed to drive somewhere you would go through the trouble of waiting for it to be available and then pay the higher rate anyway (validating the test for demand).

 

What happens, however, when a private business opens a similar station in the same town offering much the same product at often comparable enough terms? The Fed’s ability to affect your driving habits becomes more remote; they might have some, but it isn’t clear how much or even how because you can get largely the same gasoline from elsewhere. Thus, the terms of those private transactions would be dictated only partially by what the Fed did in restricting its own supply and at what price.

 

Now imagine that several other filling stations open and offer much better quality gasoline, the real high octane stuff at radically different formulations and then sold at cheap prices. Most people in town will inevitably switch to that over time because it fits better the vehicles they really want to drive.

 

Then, out of nowhere, those other stations suddenly can’t or won’t sell their fuel anymore. The Fed in seeing this genuinely and even desperately offers to help by manufacturing huge quantities of the same gasoline it has always sold and selling it for as cheaply as possible. A few people may be able to take advantage of the offer, but most of the rest of the town really can’t because their modern vehicles are made to run on the other stuff. They can get away with the occasional fillup at the Fed, but they can’t do it all the time nor is it cost-effective or realistic to go back to driving the older vehicles that could.

 

Given this situation, would it matter if the Fed’s gas station after being so unused for so long decided to cut back on the quantity of its brand available for sale, raising the price slightly while doing so? No, it wouldn’t. The town’s drivers in the aggregate would be stuck largely in the same driving-less position regardless.

Missing Modern Money, March 1990 - 2015

(see more posts on missing money, )
Missing Modern Money, March 1990 - 2015

- Click to enlarge

Full story here
Jeffrey P. Snider
Jeffrey P. Snider is the head of Global Investment Research of Alhambra Investment Partners (AIP). Jeffrey was 12 years at Atlantic Capital Management where he anticipated the financial crisis with critical research. His company is a global investment adviser, hence potential Swiss clients should not hesitate to contact AIP
Previous post See more for The United States Next post
Tags: ,,,,,,,,,,,,,,,,,,,,,,,

Permanent link to this article: https://snbchf.com/2017/10/snider-non-transitory-meandering/

Leave a Reply

Your email address will not be published.

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <s> <strike> <strong>