IIt is right and natural that a war as potentially devastating as Russia’s invasion of Ukraine should dominate the market as long as it rages, but I cannot escape the feeling that by focusing on this, the market does not pay much attention to something that is, economically speaking, much more impactful. Stock index futures point to a higher open this morning on positive comments from Vladimir Putin, despite yesterday’s Consumer Price Index (CPI) data showing runaway inflation and the Fed, far from reacting decisively to this, continues to add fuel to the fire. .
Sure, it’s reassuring in some ways to hear Putin say there have been ‘positive changes’ in the Russia-Ukraine talks but, honestly, should we pay much attention to what? he says at this point, even (or especially) if that’s what we want to hear? Since the start of the invasion, he has lied to his own people and all who listen to him and has repeatedly shown himself to be a master of misinformation and manipulation. Even his words aren’t worth the paper they’re written on, and yet billions of dollars are traded based on what he says, something we’re desperate to hear, something that makes him sound at least somewhat reasonable in the eyes of the world.
Meanwhile, yesterday’s CPI data showed a 0.8% jump in prices month-over-month, translating to an annual inflation rate of 7.9%, the highest in forty years. Nor is there much comfort in the Fed’s favorite measure, core inflation. That figure, which excludes often volatile food and energy prices, rose more than three times the Fed’s 2% target rate, to an annualized rate of 6.4%. Another bad news again, the salary does not follow. Wages increased, but less than prices, leading to a 0.8% drop in real wages over the month, 2.6% over the last year.
Nothing good there, no matter how you look at it. Yet, dive into today’s news and you’ll find news reports announcing that today is a big day for the Fed. This will be the last time they make asset purchases in the biggest round of quantitative easing (QE) in their history. So QE is ending now in response to core inflation figures that exceeded the Fed’s target rate in April of last year and was more than double that target, at 4.5%, in June.
In fact, it’s even more ridiculous than that. What ends is the expansion of the Fed’s balance sheet. They will continue to buy indefinite bonds and mortgages to maintain their total holdings as current ones mature. I know they are afraid of creating a shock to the financial system by suddenly reversing such an old policy which has offered so much free money to banks and financial institutions for so long but even so it is a questionable decision .
Oversimplification of complex and nuanced issues is a blight on our society right now, so I hesitate to take a simplistic view of inflation and the Fed’s response, but, as Freud said, sometimes a cigar is just a cigar. Inflation has been well above target for about a year and yet it is only now that Jay Powell and the others see fit to react. As a result, they continue to implement a stimulative monetary policy, with inflation at 7.9% and unemployment well below the average of 3.8% last month.
The end of the Fed’s balance sheet expansion today is a stark reminder of the magnitude of the drastic monetary policy changes that must now be enacted, and the likelihood that the Fed has waited so long to make this change. that she could be behind the curve the other way now too. Chances are they will tighten further when things start to slow down significantly. Traders react to Vladimir Putin’s encouraging words and buy stocks. They may well be focused on the bad news and if so, the market volatility is far from over.
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