The Ides of March
Today is March 15 — the ides of the month.
“Beware the ides of March,” the soothsayer warned Julius Caesar… presciently. Should investors likewise beware the ides of March?
Today and tomorrow the Federal Reserve’s Open Market Committee — so-called — huddles at Washington.
These are the questions presently hanging in the air:
Will Mr. Powell and his mates finally push the federal funds rate up from zero — even as recessionary omens gather?
Or will the unpleasantness overseas hand them excuse to stand paws off, to sit idly upon their perspiring hands?
Prior to Mr. Putin’s adventuring, many prognosticators soothsaid a 50-basis-point hike. They reasoned a 0.50% hike would get good water on the inflationary flames currently fanning.
These flames are beginning to menace the population…
The latest producer’s price index reveals a galloping 10% annual rate of increase. And consumer price inflation blisters at 40-year highs.
Little relief is in prospect. Explains Oxford Economics:
Inflation in the pipeline is showing few signs of decelerating in the near term, especially as the Russia-Ukraine war wreaks havoc in energy and other commodity markets. Higher input costs will keep producer prices frustratingly elevated and continue to squeeze profit margins, likely feeding higher consumer prices in the coming months until war tensions unwind and goods demand moderates.
Of especial concern is the oil price. When oil spirals at such dizzying rates as presently, recession odds spiral with it.
Mr. Mark Zandi, chief economist of Moody’s Analytics, estimates the odds of recession within the following 12–18 months at one in three.
“It seems obvious that the odds of recession are now well above average here in the United States,” adds a certain Gerard MacDonell with 22V Research.
It is unlikely the Federal Reserve will announce a 50-basis-point hosing tomorrow. The Ukraine affair will likely hold them to a 25-basis-point sprinkling.
They will likely keep raising interest rates into next year. But enough to douse inflation’s fires? It is… unlikely.
Crane your neck. Glance backward to the wildly inflationary year of 1980…
The average inflation rate ran to a punishing 13.5%. Meantime, the average nominal interest rate went at 13.35% — plenty handsome.
Thus the inflation rate and the nominal interest rate were closely aligned.
The real interest rate – the nominal rate minus the inflation rate — thus went at negative 0.15% (13.35 – 13.5 = -0.15).
Paul Volcker was determined to get his hands around inflation’s neck. To strangle fatally he squeezed and squeezed until rates ticked 20%.
Now come home…
Consumer price inflation presently speeds at an annualized 7.9% rate. Meantime, the Federal Reserve’s target rate gutters along between 0% and 0.25%.
Hence the real interest rate — the nominal rate minus inflation — ranges between negative 7.65% and negative 7.90%.
Recall, Paul Volcker confronted a negative 0.15% real rate.
Assume the present inflation maintains its 7.9% gait. The Federal Reserve would have to elevate rates above 10% to cage inflation as Volcker caged inflation.
Can you imagine it? Paul Volcker’s economy was but one fraction as indebted as today’s economy.
Today’s economy has been erected upon the beach sand of cheap credit, now piling to levels truly abominable.
Neither the stock market nor the economy could endure Volcker’s type of roughhousing. Neither could hold out against the 10%-plus rates the business would require today.
For the matter of that, we are unconvinced either can withstand rates much above 2%.
Meaningfully higher rates will send them both heaping down, collapsed and wrecked.
Hence the Federal Reserve hangs from the hooks of a mighty dilemma it itself has engineered.
Its options are these:
Raise rates and push the economy and the stock market over. Or let inflation burn its way clear through the dollar.
Good luck, ladies and gentlemen — you will need it — and then some more.
Managing Editor, The Daily Reckoning