Last night brought news on the planned interest-rate changes in 2022 from the US Federal Reserve. So we have a case of the morning after the night before. I did not make much of a deal of it ahead of the event because I was not expecting them to make any changes to policy last night merely set the scene for the year ahead. As the day progressed the Bank of Canada mined that particular theme.
The Bank of Canada today held its target for the overnight rate at the effective lower bound of ¼ %, with the Bank Rate at ½ % and the deposit rate at ¼ %.
So nothing from it except promises for the future.
The Governing Council therefore decided to end its extraordinary commitment to hold its policy rate at the effective lower bound. Looking ahead, the Governing Council expects interest rates will need to increase, with the timing and pace of those increases guided by the Bank’s commitment to achieving the 2% inflation target.
They are in danger of quite a bit of satire on the inflation targeting bit because of this.
Finally, Canadians can be assured that the Bank of Canada will control inflation. Prices for many goods and services are rising quickly, and this is making it harder for Canadians to make ends meet—particularly those with low incomes. Prices for food, gasoline and housing have all risen faster than usual. We expect inflation will remain close to 5% through the first half of 2022 and then move lower. There is some uncertainty about how quickly inflation will come down because we’ve never experienced a pandemic like this before. But Canadians can be assured that we will use our monetary policy tools to control inflation.
Canadians might reasonably wonder why they have not used any of them when inflation is around 5% but will when it is “lower”? I do not want to get into the Transitory debate but as central bankers got the inflation rise wrong they have a bit of a cheek blaming events. So we are left with a promise that they will control inflation by acting on it after it has surged which reverses the past rule that you need to get ahead of events rather than chase your tail.
Back to the Fed
The essential part of the policy statement is here.
With inflation well above 2 percent and a strong labor market, the Committee expects it will soon be appropriate to raise the target range for the federal funds rate.
As you can see we have further conformation of my theme that central bankers are pack animals. We have an inversion of timing as the Bank of Canada is aping the Fed but they both seemingly believe that promises are more effective than actions. Well for interest-rate rises anyway, as interest-rate cuts can be instant.
The reality is that the US CPI has risen to 7% as the Federal Reserve has sat on its hands whilst telling everyone that the inflation would be transitory. It gets some relief from target the lower PCE index which last was 5.7% in November and looks set to edge nearer to 6% when the December numbers are released tomorrow.
There was an additional nuance in that with a balance sheet approaching US $9 trillion you might think that another US $30 billion could be avoided, but apparently not.
The Committee decided to continue to reduce the monthly pace of its net asset purchases, bringing them to an end in early March. Beginning in February, the Committee will increase its holdings of Treasury securities by at least $20 billion per month and of agency mortgage‑backed securities by at least $10 billion per month.
Hawkish?
Somehow the media have got the idea that this is hawkish, Perhaps they missed this in the first reply from Jerome Powell in his press conference.
we know that the economy is in a very different place than it was when we began raising rates in 2015. Specifically, the economy is now much stronger. The labor market is far stronger. Inflation is running well above our 2 percent target, much higher than it was at that time.
Sadly he did not get pressed on why he is in fact not even responding as he did in 2015. We did get a flash of honesty as he hinted that he is in fact responding to the labour market and not inflation.
I think there’s quite a bit of room to raise interest rates without threatening the labor market. This is, by so many measures, a historically tight labor market—record levels of job openings, of quits; wages are moving up at the highest pace they have in decades.
That is a rose tinted view on wages because the real terms picture is very different.
Median weekly earnings of the nation’s 116.3 million full-time wage and salary workers were $1,010 in the fourth quarter of 2021 (not seasonally adjusted), the U.S. Bureau
of Labor Statistics reported today. This was 2.6 percent higher than a year earlier, compared with a gain of 6.7 percent in the Consumer Price Index for All Urban Consumers (CPI-U) over the same period.
The labour market theme kept being confirmed.
So this is a very, very strong labor market, and my strong sense is that we can move rates up without having to, you know, severely undermine it.
We then got conformation that they believe that the real economy responds to their promises.
So we feel like the communications we have with market participants and with the general public are working and that financial conditions are reflecting in advance the decisions that we make. And monetary policy works significantly through expectations, so that in and of itself is appropriate.
They consider this to be a powerful weapon and I wonder sometimes if they think talk is more powerful than action? Although of course they do not behave in that manner when interest-rate cuts are on the table.
We then got a rather curious statement about a balance sheet they are presently still expanding.
Now, the balance sheet is substantially larger than it needs to be.
Finally someone got around to what I think should have been the first question.
So year over year, inflation’s at a 40-year high and input costs for a producer-price index for all of 2021 was the highest on record. Some investors fear that the Fed might be moving too late.
Comment
Reading between the lines I see the commitment to higher interest-rates along the lines of “Definitely Maybe” by Oasis. We seem set for an increase of 0.25% in March but that pales into insignificance compared to the inflation around. After all if they really believed in inflation targeting the interest-rate rises would have begun last summer. Indeed there was a question around them causing inflation rather than stopping it.
but do you feel that, you know, monetary policy and fiscal policy maybe did too much to react to the crisis and that part of the inflation problem that we’re having right now is because the government response, you know, collectively, was more than what the economy ended up needing?
Also the Federal Reserve is determined to look away now whenever the subject of house price rises is in the air.
So asset prices are somewhat elevated, and they reflect a high risk appetite and that sort of thing. I don’t really think asset prices themselves represent a significant threat to financial stability.
Apparently in spite of falling wages people are doing well.
So asset prices are somewhat elevated, and they reflect a high risk appetite and that sort of thing. I don’t really think asset prices themselves represent a significant threat to financial stability.
Perhaps he needs his own “I cannot eat an I-Pad” moment
My conclusion is that the claimed hawkish theme will soon disappear at the sign of any economic weakness. After all inflation is at least 5% higher than the present interest-rate yet they did not raise last night. Should the economy weaken how long would it be before we saw negative interest-rates?
On a separate point I regularly get asked about changes in retirement patterns post pandemic so here is a little light on the subject.
Now, we also know that labor-force participation is significantly lower. It’s a percentage point and a half lower than it was in February of 2020. Maybe a percentage point of that is retirements. Some part of those retirements are, you know, related to Covid rather than just regular retirements.