Prince sings in “Let’s Go Crazy”:
“Dearly beloved, we have gathered here today
To get through this thing called life.”
The Federal Reserve Board and its central banking comrades obviously are not omnipotent. They also are not scientifically objective in their definitions, perspectives, methods, arguments, and conclusions. Neither is the Fed (its policies) the only important variable influencing inflation levels and patterns in America and elsewhere. Many intertwined phenomena in the United States and around the globe, including massive government deficit spending, matter.
Yet given the Federal Reserve’s success with its yield repression strategy (and its quantitative easing/money printing scheme), many observers have great confidence in the central bank’s insight, foresight, and talent for creating and managing “good” United States (and global) economic outcomes. These desirable results include not only adequate US economic growth and stable prices, but also bullish stock marketplace (use the S+P 500 as the benchmark) and home price moves.
The Fed’s long-running marketplace maneuvers, and especially its yield repression policy, have helped to create a culture strongly oriented (married, metaphorically speaking) to the existence and persistence of low Federal Funds and United States Treasury rates. In general, stock owners and securities issuers (corporations and sovereigns), as well as Wall Street enterprises who serve and profit from them, love low interest rates.
“Inflation” (deflation; stable prices) appears in various diverse economic arenas. The Fed itself and the great majority of Fed watchers on Wall Street and Main Street believe the Fed will achieve its praiseworthy goal of stable prices. Thus inflation will not climb “too high” or go “out of control”. Similarly, benchmark US Treasury interest rates also will not increase “too much” (“too far”; or “too fast”).
Since the coronavirus pandemic emerged during first quarter 2020, as part of its highly accommodative monetary policy, the Federal Reserve has purchased a huge quantity of US Treasury securities (as well as agency mortgage-backed securities). This extraordinary and ongoing net acquisition program has assisted its effort to ensure low marketplace yields. But observers should examine the Fed’s UST purchasing process and its consequences in more depth. It has significantly increased the Fed’s already sizable percentage share of the outstanding marketable (and held by the public) UST world. This noteworthy jump in the Fed’s arithmetic and percentage market share holdings of UST probably therefore has decreased the “free supply” (readily available inventory) of UST. Despite accelerating US inflation in recent months, the large reduction in the free supply of marketable UST probably has helped to keep benchmark UST yields (such as for the 10 year UST note) low.
“American Inflation and Interest Rates: Painting Pictures” (5/4/21) stressed that American “inflation” in the general sense of the term (and even if one excludes the asset price territory of the S+P 500 and homes) is more widespread and less well-anchored than the Federal Reserve Board and armies of its devoted followers (especially investment sects and the financial advisors and media who assist them) believe.
Acceleration in assorted American inflation signposts has occurred in recent months. This probably shows that Fed programs have played, and continue to perform, a critical role in enabling US inflation to rise sharply. Though inflation in measures such as the Consumer Price Index is not yet “out of control”, the Fed at present has less control over this upward trend. Recent significant increases in key inflation benchmarks such as the CPI are not “transitory”. Despite the Fed’s dogmatic adherence to its yield repression approach, the Fed’s various current policies and its related rhetoric will find it very challenging to contain the increasing inflationary pressures.
Rising inflation will force the Fed to taper its ravenous US Treasury and mortgage securities buying program, and gradually abandon its longstanding tenacious yield repression strategy, sooner than it currently desires and plans. Despite the Fed’s yield repression, money printing, and wordplay (including forward guidance), America’s widespread, persistent, and growing inflation severely challenges faith in the Fed’s long run power to block significantly higher interest rates. The Federal Funds rate and UST yields (including those on the shorter end of the yield curve) probably will have to increase faster and further than the Fed shepherd currently wants and predicts. UST yields will resume their long run upward path. Sustained ascending American inflation has a strong likelihood of undermining and reversing bullish price trends in various “search for yield” marketplaces such as stocks.
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Financial Fireworks- Accelerating American Inflation (7-3-21)