"The Fed’s Set to Pour Gasoline on a Fire"
by Jim Rickards
"Forget the happy talk from the White House and the mainstream media; the U.S. is already in a recession. They can try to redefine a recession all they want, but it doesn’t matter. If you’re a regular reader of mine, you knew this was coming because I’ve been forecasting it for months, but now it’s confirmed. The U.S. Commerce Department reported that first-quarter 2022 GDP declined 1.6%, and second-quarter GDP declined 0.9%. That fits the standard definition of a recession as two consecutive quarters of declining GDP.
Believe it or not, there is no official government agency that declares a recession. That task is undertaken by a private group called the National Bureau of Economic Research (NBER). Don’t put any weight on the “national bureau” part of the name; it’s a private body consisting of nine academic economists who meet in Cambridge, Massachusetts, near the Harvard and MIT campuses.
And don’t hold your breath waiting for an NBER determination. Most recessions last only two or perhaps three quarters. In many cases, the NBER waits so long to declare a recession that it’s over before the start date is even declared. With the NBER members being weighted to Democratic priorities and a midterm election looming, I don’t expect the NBER to declare the recession started last January until perhaps next January, or in all events after the election. That’s just how they roll.
“Who You Gonna Believe, Me or Your Own Eyes?” These formalities and delays are what have enabled Biden administration officials like Treasury Secretary Janet Yellen to say, “We’re not in a recession.” They’re relying on the fact that no recession has been declared even unofficially by NBER. Meanwhile evidence for a recession is all around us. It’s like the old Marx Brothers line “Who you gonna believe, me or your own eyes?”
On this issue, don’t listen to Yellen, believe your own eyes. They’ll try to tell you that the economy added a stellar 528,000 jobs last month, but you can’t trust that number. It’s mainly the result of “seasonal adjustments” that artificially inflate actual job creation. It’s a statistical creation that doesn't reflect reality. Besides, 303,000 were part-time jobs, which many regularly employed Americans are taking just to keep up with inflation. It’s true that nominal wages were up 5.8%. But after 9.1% inflation, real wages were down 3.3%. That doesn’t sound like a thriving economy to me.
The Worst Possible Policy: Meanwhile, Democrats have been trying to figure out a policy response to the (non)recession in advance of November’s midterm elections. Not surprisingly, they actually managed to come up with the worst possible policy. The bill that Senate Democrats passed over the weekend (with the help of Vice President Kamala Harris, who broke the 50-50 stalemate) is a warmed-over version of Build Back Better. Remember that loser?
Starting in early 2021 the Build Back Better bill went from $4 trillion to $2 trillion to now something less than $1 trillion, but it still has the Green New Scam elements along with price controls and new handouts. Democrats decided they needed to “pay for” their giveaways so naturally they’re going to increase taxes (unsurprisingly, the bill authorizes the hiring of 87,000 IRS agents). Not only that, but they’re going to tax corporate stock buybacks.
Raising taxes in a recession is a good way to turn a recession into a depression. Maybe that’s why they’re calling the bill “The Inflation Reduction Act.” Tipping the economy into recession is a surefire recipe to stamp out inflation. Meanwhile, penalizing stock buybacks is a good way to sink the stock market. It looks like this harmful legislation may soon do both.
Tight Money on Steroids: In the meantime, the stock market has generally rallied since the Fed’s recent rate hike on July 27. That’s because Wall Street thinks that the worst of the rate hikes are over and that the Fed will begin easing by early next year. But will it?
The Fed is on an aggressive campaign of interest rate hikes and further monetary tightening through quantitative tightening, QT. The Fed raised interest rates 0.25% in March, 0.50% in May and 0.75% in June and July. That sequence brought rates from 0.0% to 2.25% in less than five months. That’s the fastest tempo of rate hikes since the early 1980s. The June rate hike was the first 0.75% increase since 1994. The approximately $1 trillion per year reduction in the base money supply (that’s what QT is) is estimated to have the same effect as another 1.0% rate hike. Put together, what we are witnessing is tight money on steroids.
Wall Street Thinks EZ Money Is Coming Back: Wall Street analysts recently concluded that the Fed would soon reduce rate hikes and even begin to cut interest rates early next year. This U-turn by the Fed has been referred to as the “pivot” and is one of the reasons the stock market has been rallying in the aftermath of the most recent rate hike on July 27.
The pivot theory began with the fact that both the Treasury yield curve and the Eurodollar futures curve are inverted. I don’t want to get too technical here, but an inversion means that the curves show rate cuts in the future; such curves are normally upward sloping, meaning longer-term rates are higher than shorter-term rates. The Treasury yield curve goes downward sloping at about the 2-year note. The Eurodollar futures show inversion in overnight rates beginning as early as next March. Jay Powell lent fuel to the pivot fire at his press conference on July 27. While eschewing rate forecasts before September, he said he thought rates could be about where the “dots” (Fed forecasts) put them by year-end. The dots were showing 3.50% on Dec. 31. That means another 1.25% in rate hikes.
There are three remaining Fed meetings this year - Sept. 21, Nov. 2 and Dec. 14. You don’t have to be a math genius to see that Powell was inferring rate hikes of 0.50% in September, 0.50% in November and 0.25% in December. Those are continuing hikes, but the hikes are lower than this past June and July. A simple extension of that trend points to a “pause” early next year followed by rate cuts.
Don’t Expect a “Pivot”: But there’s a serious roadblock in the way of the pivot. The “hot” July jobs numbers I mentioned earlier have since come out. They will give the Fed further justification to continue with aggressive tightening. The Fed figures that if the economy is still adding plenty of jobs even after its recent moves, it can continue to aggressively tighten in order to clamp down on inflation. It gives the Fed hope that it can engineer a “soft landing,” where it can dial down inflation without causing a recession.
This moves my forecast on the September rate hike back to 0.75% level. The Fed (wrongly) thinks it has a green light to keep moving aggressively. And just because Wall Street wants a rate cut early next year doesn’t mean they’ll get one. The Fed is more concerned about inflation than the stock market right now. The reality is that the recession is already here despite the Fed’s opinion, planned rate hikes will make it worse and the Fed will continue to tighten until the recession grows far worse."
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