I have previously opined and still believe that higher U.S. core inflation is required to justify an interest rate hike by the Federal Reserve.
In 2015, the #JustGoForIt crowd (myself being one of them), called for the Fed to raise short term interest rates (i.e., get off the zero interest rate policy)as inflation was growing. Everyone else thought a rate hike would be crazy because it would send the dollar higher and crush the already faltering oil economy. But the 0.25% rate hike that was implemented at that time hasn’t created the calamity on the dollar as many doomsayers predicted. In fact, the relative value of the dollar hasn’t moved much since March of 2015 and has gone lower in 2016.
A comparison of the Dollar Index and Crude Oil prices over time shows the dollar is high compared to the previous years, but since 2015, it has been relatively stable.
A “must-follow” on Twitter:
Charlie Bilello, CMT
Dollar Index vs. Crude Oil.
I have suggested that the Fed wait for measures of inflation to reach 2.25%-2.50% before hiking short term rates. One of these measures, the Consumer Priced Index (CPI) in the chart below) is picking up, going above 2%, from the lows of 2015.
In my forecast for 2016, I predicted a 1.9%-2.3% growth in Gross Domestic Product (GDP) and that job creation numbers would be down slightly to about 190 -205K/month. In other words, my GDP outlook wasn’t great. I also predicted that the bond market would test a low level of 1.60%, as it did in 2015. Here is a quote from that forecast:
“I anticipate the 10-year note will stick in the same channel as the past year with a yield range of 1.60% to 3.04%. Yes, that is 1 handle on the 10-year even with the Fed starting their rate hikes. I predict long term rates will remain low due to demographic deflation (more on this later) unless ECI wage inflation and CPI core inflation rise. In any event, I don’t expect the 10-year breaking above 3.04%. Long-term rates won’t rise in a meaningful way unless inflation picks up.”
Demographic deflationary factors are present here in America and around the world. We don’t have to fear a run-away economy because consumption based economies like ours need higher labor force growth to get stronger numbers.
Perhaps my favorite economic chart, seen below, shows that we had good prime-age labor force growth in the 1980s and 1990s. However, it peaked in 2007. Large numbers of young laborers consume and create households, driving the economy. Children and older people don’t. In this cycle, the U.S. is both too young and too old, to drive that level of consumption and create stronger economic growth.
From Calculated Risk:
The census population data line is very telling:
So what will the Fed do? Don’t look to the Dot Plot which shows what various officials think the short term interest rates should be, not what they predict they will be. It is not a forecast, but it is confusing and mostly pointless (no pun intended). It just makes the Fed look silly like Cher in Clueless… consistently being wrong for years.
A funny vine I created when the question of should the Fed raise rates.
We are living a 35-year trend, going on 36, of lower inflation, lower year over year wage growth and lower Fed Funds rates.
If CPI inflation and Fed wage inflation grows, then short term interest rate hikes would be justified.
Federal Reserve Bank Of Atlanta Wage Tracker:
However, the economy is running at a “normal pace” for years now. We have 43-year lows in unemployment and 16-year highs in job openings. So until we see some stronger indications of inflation, I believe the Fed’s nonaction so far, has been the best action to take.
Logan Mohtashami is a senior loan officer at AMC Lending Group, which has been providing mortgage services for California residents since 1987.