Sometime this fall, the Federal Reserve will begin a new tightening cycle.
Publicly, Federal Reserve officials appear to be confident that the American labor market may be overheating or that inflation may be on the way in.
Is this the case?
In looking at Employment, Industrial Production, Consumer Prices, Capacity Utilization, Retail Sales, and the West Texas Intermediate price of oil, there’s no evidence that the Fed should raise rates.
What is the Fed worried about?
Probably, and almost exclusively, it’s financial asset price appreciation.
Here’s a review.
A picture of employment growth against the Federal Reserve’s target interest rate follows. Interestingly, in past tightening cycles, employment growth was either accelerating or flat.
That’s not the case this time around. Employment growth is decelerating, and has been decelerating since February 2015.
A very similar story to Employment is present in the Industrial Production picture. Except for one instance, Industrial Production growth is either accelerating or flat when the Fed raises rates.
That’s not the case this time around.
Here’s the Consumer Price picture.
As with employment, the Fed almost always raises rates when inflation is accelerating.
That’s not the case this time.
Capacity Utilization has a very similar story to Industrial Production.
Price of Oil
Here’s the oil price picture.
A less interesting story emerges here, probably because, of the indicators mentioned here, oil is of least policy value.
As with the other economic indicators already mentioned, a tightening cycle this fall would be quite odd when looking at Retail Sales growth.
Summing Up the Non-Causes
As indicated, it’s probably not the real economy behind the Fed’s thinking.
* * *
Here’s what’s really concerning Fed officials.
The Fed sees it’s ultra-low monetary policy as having been incredibly stimulative to financial assets. And, they don’t want another technology bubble.
So, to avoid a technology bubble, now’s the time to start raising rates.
Since the last time the Fed started a tightening cycle, the S&P 500 is up 62%, about where the mid-90s experience of 63% was. It’s well short of the +191% in the late90s/early 2000s equity markets produced. It’s also better than the -21% experienced in the mid-2000s.
Interestingly, the P/E ratio confirms a similar story.
In looking at the Shiller P/E ratio, perhaps a better rule than the Taylor rule to predict Fed tightening moves today is the P/E ratio rather than inflation and unemployment. Just think about it.
It’s an interesting experiment for the Fed this time around, being concerned about the financial economy more than the real economy.
Overall, although Federal Reserve officials publicly claim that the reason for impending rate hikes is that the American economy is doing well, there’s not a lot of evidence, at least based upon prior tightening cycles, that it’s the real economy the Fed is worried about.
Rather, the pending beginning of the Fed’s rate hiking season likely stems almost exclusively from concern about financial markets.
Perhaps unsurprisingly, the Fed doesn’t want another technology-type bubble (interesting that the Fed thinks it knows the intrinsic value of stocks better than the market). At least, that’s what the data appear to suggest.
Courtesy: Roger Thomas via Zerohedge
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