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September 08, 2023

We've talked a lot about the inflation picture.  We'll get the big August inflation data next week.
 
Today, for some perspective, let's revisit the difference between level of prices and the rate-of-change in prices.
 
There's a big difference.  The level of prices is here to stay.  The rate-of-change has to slow, and has been.   
 
Remember, the massive monetary and fiscal response to the pandemic (plus the subsequent agenda spending binge) ramped the money supply by 40% in just two years.  That was ten years worth of money supply growth (on an absolute basis), dumped onto the economy over just two years.
 
That tsunami of money rapidly reset the level of prices, of almost everything. 
 
And it was by design.  It was an explicit decision, out of necessity and opportunity, to inflate asset prices and inflate away the value of debt.
 
On the former (i.e. inflating asset prices), that translates into the Q2 report released today on household net worth.  It's at new record highs
 
  
On the latter (inflate away the value of debt), the nominal size of the economy has grown at an average annual rate of 10% coming out of the pandemic-induced contraction, largely resulting from the nominal price of things.
 
 
And with that, as you can see in the far right of this chart, the debt burden has been shrinking from the pandemic policy-response driven peak.  What matters is debt relative to the size of the economy, and as you can see in the chart above, that's been improving (thanks to hot nominal growth).
 
With the rate-of-change in prices now under control, as we have often discussed we need a reset in wages (higher wages) to offset the reset in prices — to restore the standard of living.
 
It's a slow, painful, lagging process, but it looks like it's happening.  And we're getting productivity gains, which mutes some inflationary effects of wage hikes.  Below is median hourly wage growth …
 
And the New York Fed's Labor Market Survey says the average full-time wage received in the past four months increased from $60,764 in July of 2022 to $69,475 in July of this year.  That's 14% — a big number.  It was just 3% growth the prior year. 
 
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September 07, 2023

We had a slew of Fed speakers today, intended to keep you thinking about the prospects of even higher rates, which implies (they hope) expectations of less disposable income and higher unemployment.
 
And with that being the intended takeaway, they hope the continued threat of higher rates, or even the current level of rates "for longer," is demand suppressing.  
 
That strategy of perception manipulation has been a key piece of the inflation fighting campaign.
 
Repetition has a powerful psychological effect.  Remember, the Fed's mantra of "transitory" two years ago. 
 
"Transitory" is how they famously described the multi-decade high inflation that was clear and obvious to everyone.  And that inflation was even driven by textbook inflationary policy — an explosion in money supply.
 
Still, the drumbeat of "transitory" worked.  Within a few months, a survey of fund managers showed that 70% thought inflation was temporary.
 
Now, the script, as we know, has since been flipped.  The mantra is, and has been, "doing more" …  "higher for longer" … "we have to keep at it."
 
Is it working? 
 
It's working.
 
Below, you can see what the Wall Street consensus view is on the economy (the blue line) compared to how the economy is actually tracking (the green line). 
 
   
And with all of this talk of driving inflation back down to 2%, come hell or high water, people believe it, and it affects behaviors. 
 
Despite an economy and inflation running well above trend (combining for near double-digit nominal GDP growth), inflation expectations remain (and have remained throughout the past two years) incredibly tame at just 2.4%
 
  
So, inflation expectations are hovering around the average of the pre-pandemic decade, even though inflation is running multiples hotter, and we have over $5 trillion more sloshing around the economy.   

 

 

 

 

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September 06, 2023

We talked yesterday about the sharp bounce in yields, from Friday's lows.  
 
The climb continues today.  And at the highs of the day (4.30%), we are now nearing (for a third time) the post-pandemic era highs.
 
At the same time, oil prices are (again) on the move.  
 
With both in mind, we'll get the August inflation report next Wednesday
 
And as we discussed heading into July report, a powerful driver of falling inflation (the fall from over 9% to 3%) has been DEFLATION in energy prices.
 
You can see in this graphic below from the Bureau of Labor Statistics …
 
 
That deflation in the energy component was brought to us by supply manipulation from the White House (via the near halving of the Strategic Petroleum Reserves, SPR).  
 
Now it's time to restock.  And not only has that SPR card been played, but as we've discussed the past two years here in my daily notes, the Western world's war on oil has put OPEC and Russia in the driver's seat.  Not suprisingly, they have been, and will continue to hold production down, and they will ultimately dictate the price we pay for oil.  And it will be a very high price.
 
That said, this return of rising year-over-year oil prices, within the inflation data, will not be in next week's report (the August CPI report).  
 
If we look at the price records from the EIA (Energy Information Administration), these August prices are still being measured against a high base of August 2022 prices ($94 oil, $7.28 natural gas, $4.08 retail gas).  

 

 

 

 

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September 05, 2023

Following last week's economic data, the interest rate market is now expecting the Fed to hold steady on rates, when it meets on September 20th.
 
That should be good news for stocks.  It was, for much of Friday.  Today, not as much.  And that's mostly because of what's happening here …
 
 
This is a chart of the U.S. 10-year yield.  As you can see, heading into the jobs report this past Friday, this important barometer on global interest rates was falling back toward 4% (trajectory denoted by the red line). 
 
This fall in rates was driven by softening U.S. economic data, and the expectation that Friday's jobs report would (further) confirm that inflation pressure from the labor market was being choked off.
 
The jobs report delivered, on that front. 
 
But the interest rate market did an about face, and as of this afternoon was UP 20 basis points from Friday's low. 
 
What's going on?
 
Remember, the Fed has claimed to be "data dependent" in determining the rate path from here.  They've been looking for softening data to validate a pause, if not the end of the tightening cycle.
 
They've gotten it. 
 
With that, most would expect some relief in the interest rate market (which would translate into some welcome relief in consumer rates).
 
We've gotten the opposite, thus far.
 
Is the cooling in the data too perfect?  Cool enough for the Fed to hold rates steady here, but not cool enough for the recession doomers to feel confident (any longer) in a big rate cutting campaign next year. 
 
The interest rate markets seem to be adjusting for that picture.  
 
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August 31, 2023

We get the big jobs report tomorrow morning.

We’ve already seen a significant decline in job openings in the JOLTS report this week — the lowest number of job openings in two years. 

On Wednesday, the ADP jobs report for August (published by the private payroll company) came in at sub 200k.  That’s about half of the post-pandemic monthly average. 

And the “main event” of jobs reports, the government report due tomorrow, is expected to show about 170k jobs created in August.  That’s below the average monthly job growth for the (slow economic growth) decade prior to the pandemic.

Bottom line:  The job market seems to have normalized (finally), in no small part due to the sobering of the workforce from the many anti-work incentives of that past three years.

That said, while the Fed’s focus on jobs, over the past year, has been mostly about attempts to suppress wage growth, we are indeed seeing hot wage growth.

But as you can see in the chart above, the Fed tightening campaign and (moreover) the Fed’s persistent threats to destroy jobs have reversed what could have been a dangerous upward wage spiral (which would threaten a self-reinforcing price spiral).

Interestingly, in today’s small business jobs report, small business owners are expecting to raise compensation in the coming months.  And they are now more concerned about retaining and attracting good talent, and much less concerned, compared to a year ago, about labor costs.

So wages are finally moving higher, to close the gap with higher prices. 

What about the inflation risk from higher wages? 

Importantly, we’re getting the inflationary offset of productivity gains.

Remember, we talked about this in my note last week (here).  Despite some of the hottest wage gains we’ve seen in decades, the annual growth in the cost per unit of output was just 1.6%, in the most recent quarter.  

That’s lower than the average unit labor cost of the 20-year period prior to the Global Financial Crisis.  And it’s thanks to productivity growth.

Also remember, we are just in the early days of maybe the most productivity enhancing technological advancement of our lifetime:  generative AI

On that note, the CEO of Salesforce, which partners with 150,000 companies around the world, talked over and over again on his recent earnings call about the “incredible new levels of productivity its customers will see from generative AI.

 

 

 

 

 

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August 30, 2023

We'll see the latest reading on the Fed's favored inflation gauge tomorrow. 
 
It's likely to tick up, but remain in the low 4s (year-over-year percent change). 
 
Importantly, as you can see in the chart below, the Fed's target rate is well above inflation. 
 
 
As we've discussed many times, this dynamic of getting the Fed Funds rate (short term rates) above the rate of inflation has historically been the formula for putting downward pressure on inflation.  And the Fed has built in plenty of cushion, to the tune of over 100 basis points.
 
So the Fed has its foot on the brake
 
Moreover, the market is pricing in about a coin flips chance for another quarter point hike by the end of the year.  And that expectation has been set by a combination of the Fed's formal rate projections, along with the persistent jawboning we hear from Fed officials about "keeping at it" until they get inflation down to 2%.
 
That manipulation of expectations serves as more foot pressure on the brake (by design).
 
That said, the Fed is supposed to be "watching the data" for their guide on next steps.  And much of the data has been falling into their comfort zone. 
 
So, what gives? 
 
Remember, loads of government spending is still yet to be deployed. With rates well above inflation at the moment, and a hawkish posture, the Fed has built in some "insurance."

 

 

 

 

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August 29, 2023

We had some July jobs data this morning.  We'll see July core PCE on Thursday, the Fed's favored inflation gauge.  And then on Friday we get the August jobs report. 
 
Remember, the Fed told us the data will determine whether or not they've finished the job on inflation.  And this line-up of data should go a long way toward determining that objective.
 
This morning's jobs data might be the most important.  
 
Remember, from the very beginning of the tightening campaign, Powell has targeted jobs.  More specifically, he targeted the mismatch between the number of job openings and the number of job seekers. 
 
That ratio was over 2, when this tightening cycle started (2 openings for every 1 job seeker).  With that leverage for employees, people were quitting jobs at the highest rate on record. 
 
It's job switching that drives the highest wage growth.  And the Fed was concerned an upward spiral in wages would fuel a self-reinforcing cycle of higher prices. 
 
This morning's report on job openings showed the openings-to-seekers ratio fell to 1.4.  That's the lowest in almost two years.  In March of last year, there were 12 million job openings.  Today there are 8.8 million.  And the quit rate is now back to pre-pandemic levels. 
 
Yields fell 15 basis points on the number this morning.  Stocks had a big day.  Commodities perked up.    
 
Why did markets respond so positively to the evaporation of three million job openings over the past seventeen months?  
 
Destroying three million job openings was wringing out excessive exuberance in the economy.  Undoubtedly some (if not many) of those job openings weren't real jobs, but were creating leverage for employees to command higher wages from employers.  In the Fed's view, this morning's number is success.

 

 

 

 

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August 28, 2023

In my Friday note we talked about the commentary out of Jackson Hole.  We heard from Jerome Powell (Fed) and Christine Lagarde (ECB).
 
Then on Saturday, the head of the Bank of Japan (Ueda) contributed to a panel discussion.
 
Here's my takeaway:  Powell told us they will keep throttling the economy by maintaining high rates.  Lagarde told us that they will keep intervening to fix whatever they break in the financial system, resulting from high rates. 
 
And Ueda told us that they will continue to be the backstop.  They will continue ultra-easy policy, printing yen, and manipulating/suppressing global market interest rates so that the tightening policies of its G7 counterparts don't blow up their own respective government bond markets (i.e. they don't trigger a cascade of global sovereign debt defaults).
 
That's the script they've been following for the past year, and it hasn't changed.  To be sure, the "normalization of rates" in the U.S. and Europe only works with the assistance of the Bank of Japan.
 
Japan's benefit?  As we've said, the world gives Japan the greenlight to devalue the yen, inflate away the world's largest debt load, and increase export competitiveness (through a weaker currency).  It continues to happen.
 
 
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August 25, 2023

The Kansas City Fed is hosting its annual economic symposium at Jackson Hole.
 
As we've discussed, this annual event is well attended by the world's most powerful central bankers and finance officials.  And historically it has served as a platform for central bankers to communicate important signals regarding policy adjustments.
 
Did we get one of these important signals today?
 
The Fed Chairman, Jerome Powell, spoke this morning.  He said a lot, but nothing new.  The Fed has rates in restrictive territory, currently putting "downward pressure on inflation."  And from here, they will watch the data, to see if they need to tighten further, or hold where they are.
 
It turns out the keynote speaker of the event wasn't a Fed official, but the head of the European Central Bank.  It was Christine Lagarde that addressed the symposium topic of this year, "Structural Shifts in the Global Economy."
 
So what did she say?
 
Let's start with her conclusion:  "There is no pre-existing playbook for the situation we are facing today – and so our task is to draw up a new one."
 
That's quite a statement.  She says that the (supply-oriented) changes in labor, energy and trade, are structural — and blames the pandemic.
 
With that, in the post-pandemic world, she says we should expect more shocks emanating from supply, which will result in more price shocks.
 
So, just as everyone has been hoping the central bankers would step away from manipulating the economy and markets, Lagarde says we need even more "robust policymaking in an age of shifts and breaks."
 
If we're paying attention, "robust policymaking" in this post-pandemic era, seems to translate into raising rates to the point of breaking things in the financial system, and then simultaneously intervening in markets to fix what they break (as the ECB did with its sovereign bond market, as the UK did with its sovereign bond market, and as the Fed did with its banking system).
 
As I've said many times here in my daily notes, we are in the era of no-rules central banking.  The world's central banks crossed the line in the sand (i.e. ripped up the rule books) at the depths of the Global Financial Crisis, and unsurprisingly, haven't turned back.  It is now standard operating procedure to fix and manipulate.
 
Related, rather than let markets determine the viability of the coordinated policy agenda of governments (namely, the climate agenda), the central banks continue to position to accomodate the agenda, muting the shocks, if not canceling the negative signals.  

 

 

 

 

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August 24, 2023

We talked yesterday about the Nvidia earnings.
 
For the second consecutive quarter, they delivered shockingly big numbers, and CEO Jensen Huang delivered an education to the analyst community on the global transition to "a new era of computing," and the related trillion-dollar retooling of the world's data centers (from CPUs to GPUs).
 
That said, the stock gave up all of the post-earnings gains by the close today.  Concerning?  For perspective, Nvidia is a trillion-dollar company now, but growing at a better than 100% annual rate, with 80% share of a new trillion-dollar market opportunity.  If we look at Amazon, they developed the (new) cloud business (AWS) over the past decade, growing it at a 50% annualized rate, and the stock went up nine-fold.
 
As we've discussed over the past quarter, this (gen AI) technological revolution is productivity enhancing for the economy.  It's a formula to grow the economic pie (and the size of the stock market).
 
With that, productivity gains create the opportunity for much needed wage gains (to restore quality of life, which has been eroded by inflation).  We're beginning to see both (productivity and wage gains).
 
We averaged just 1% productivity growth for the decade prior to the pandemic, and negative 0.7% since the fourth quarter of 2020.  The most recent productivity growth report came in at 3.7%.
 
That's huge.  Because wages have been (relatively) hot, as you can see in the far right of the chart below.  
 
 
And this wage pressure is precisely why the Fed has focused on jobs in this inflation fighting cycle. Powell has talked endlessly about the mismatch between the number of job seekers and the number of job openings.
 
The concern?  With leverage in the job market, job seekers and employees can command higher wages.  With that, the Fed has feared an upward spiral in wages, where wages feed into higher prices (inflation), which feeds into higher wages … and so the self-reinforcing cycle goes.
 
That said, we need wages to reset (higher) to the (higher) level of prices, not the other way around.  A fall in prices to restore buying power would lead to a deflationary bust (low or contracting economic activity and falling prices).  That scenario is far worse than high inflation.
 
A deflationary bust is vulnerable to a self-reinforcing spiral, and very difficult to escape (ask Japan).  And it's far more dangerous, given that we've already exhausted two deflation-fighting tools:  government spending, and expansion of the Fed balance sheet.
 
With all of the above in mind, while wages have indeed been on the move, we are already getting an offset from productivity gains.
 
The cost per unit of output last quarter was just 1.6%.  That's lower than the average unit labor cost of the 20-year period prior to the Global Financial Crisis.
 
The Fed should be very happy with the prospect of a productivity boom.
 
We'll see if that factors into the messaging tomorrow at the big St. Louis Fed economic symposium at Jackson Hole.  As I've said, this event has a history of signaling policy adjustments.