The Fed thought they needed to raise rates to counter Trump’s stimulus, but Trump’s trade wars are a much bigger threat to the economy.
We’re at a point where some of the world’s leading financial journalists are passing each other “stories” about the stock market — from The Onion — and we all think this is basically appropriate, if not normal. It’s not every day that an 800-point intraday loss in the Dow Jones Industrial Average is all but reversed in a few minutes, as happened on Thursday, or that that is only the latest in a week marked by swings in both directions.
And with a jobs report the next day, which would show the economy adding a respectable 155,000 new positions in November, with the unemployment rate staying at 3.7%. New jobs were down from last month’s revised 237,000 and fell short of expectations of 190,000. The real economy is nowhere near as unstable as the market.
We are all now, to recycle an old joke, the Fugahwe Indians of finance, lost in a volatile market and asking, where the fugahwe? And that, friends, is the fault and the task of the Federal Reserve.
The market has been a bit volatile lately.
The roaring-back rally yesterday happened after The Wall Street Journal reported that the Fed is looking at ways to communicate to markets that it may — may — slow down the pace of interest rate hikes. Rates have been rising as the unemployment rate falls, less to fight inflation (there is none, despite many predictions of hellfire if workers were to get pay raises) than to give the central bank room to cut rates should the economy fall into recession.
In other words, the argument has been that the Fed needs room to battle threats to the economy later. But the biggest threat to the expansion is the president of the United States — and it’s here now. And that means the Fed really does need to cool its ardor to raise rates.
See, the Fed began raising rates to take out insurance against Trump the month after he was elected, since he made no secret of his plans to stimulate (through a large tax cut for corporations and rich people, coupled with a small one for most others) an economy already running near full throttle.
The idea was that the central bank had to be the adult, the one who (in deference to the line about the Fed’s job being to take away the punch bowl before the party gets out of control) regulated the amount of booze in the punch by matching new fiscal stimulus with monetary restraint. Even if it didn’t take away the punch bowl entirely.
There was little inflation when Trump arrived — the inflation measure the Fed uses had risen just 1.9% in the year before his inauguration — but the tax cuts and higher spending he brought would surely add some, right? And even though ordinary folks’ inflation-adjusted wages weren’t back to pre-2007 levels after the disastrous recession, signs that they were rising seemed to scare most Fed officials.
But, like the financial markets, the Fed discounted the fact that the other parts of Trumpism — the war on immigration, the wars over trade — actually slow the economy down. That makes the Fed’s job different now that those pieces are the center of the action.
Two years later, we are in a place where Trump’s fiscal stimulus is beginning to fade — Bank of America Merrill Lynch says it will add only 0.25% to 2019 growth in gross domestic product and 0.1% in 2020 — while trade policy’s impact is just beginning to show.
Meanwhile, the Fed’s moves to cool the economy have also begun to make things worse, precisely because they came too soon and anticipated only half of the president’s agenda. The big sign of this is a notably cooling housing market, in which October existing-home sales were 5% lower than a year ago, as interest rates rise and affordability weakens.
So here’s the paradox.
The Fed “should” raise rates because the economy is strong, near full employment, even though markets see early signs of a downturn. Nothing about the jobs report changes that — even though headline job gains were low, manufacturers added 27,000 jobs, suggesting that, despite General Motors’ GM, -2.27% big layoff announcement, the trade wars haven’t yet hit employment. Merrill still sees the unemployment rate falling to 3.2% next year as wages rise 3.5%.
But the Fed “shouldn’t” raise rates because higher rates’ impact on housing would only worsen with more hikes. Friday’s consumer-confidence report from the University of Michigan says consumers’ expectations for future economic conditions are cooling off, which could be bad for everything from cars to restaurants. Interest rates are a big part of that. And because the unpredictable president and his off-and-on trade war aren’t getting any easier to figure out.
The temptation is for monetary doves — and I’ve been one — to say we told you so. If the Fed had moved more slowly, consumers would be more capable of picking up the slack as business investment stumbles on trade worries. It would be a better time for the Fed to raise rates, off of a lower base.
But in the world we live in, the Fed has already made housing and cars more expensive, with the biggest risks from Trump still waiting to be quantified. In preparing for a Ghost of Recession (or Inflation) Future, it overlooked the bogeymen haunting 2019’s economy now. It’s going to be a muddle because the Fed has done too much already.
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