The Federal Reserve Board’s monetary policy committee proved itself a fan of incongruity last week. It increased its forecast of the economy’s growth rate, lowered its expectation of the unemployment rate, and revised upward its anticipated inflation rate. In view of these forecasts of more growth, a tighter labor market and higher inflation, the Fed’s gurus decided not to raise the Bank’s benchmark interest rates.
Chairman Jay Powell continued in that mind-twisting vein. Things are moving in the right direction in response to the Fed’s rate increases, but inflation remains too high, so the Bank will stop moving in that right direction for now. One analyst summed up what the Federal Reserve Board’s monetary policy gurus did last week, “If you don’t get it, it’s because you’re paying attention.”
There’s more. The Fed’s monetary policy committee voted not to raise rates even though most members anticipate a need to raise them in the future, with a half-point increase seeming to be the majority’s choice. One wag likened the committee’s decision to that of an overweight person who, knowing he must lose weight, buys a membership in a gym, but does not go there.
Powell Plays Politics, Fed Style
Apparently, Powell wanted a pause while a majority of his colleagues favored raising rates, which even after ten increases still hover around zero when inflation is taken into account. Powell in effect bought the votes of the hawks by promising future rate increases. That had the added advantage of creating a “hard pause”, signaling the Fed will soon return to its battle against inflation. Notable: in response to a question Powell immediately corrected himself after referring to the pause as a “skip”.
Powell Is Future-Data Dependent
The chairman has two good reasons for a summer stall. One is that experts who dissect inflation data see not only light at the end of the tunnel, but the end of the inflation tunnel itself. They expect inflation data to turn Fed-favourable soon. Inflation measures don’t yet take account of the fact that rents, which have been rising at about an 8 per cent rate, are now increasing at a rate of only 2 per cent on new leases, according to Zillow. Used- car inflation is more likely to ebb than remain at current levels. And commodity prices are falling along with inflation expectations. All of that should be reflected in the next inflation report, and persuade the Fed to extend its vacation through the rest of the summer. So goes the argument that the Fed is done, or that at most will be one- and-done when it comes to further interest rate increases.
Powell’s other reason for having the Fed stay its hand is that tighter credit as regional banks become fussier about lending might do a good part of the Fed’s tightening job for it.
Regional Banks Teeter, Totter, Tighten
He can and did point to regional bank tightening as a factor in his decision. After all, tightening by these banks might slow the economy enough to obviate the necessity for some of the interest rate increases the Fed’s inflation hawks have penciled in. In the tradition of “loose lips sink ships,” the chairman did not mention that a full-blown banking crisis is a possibility lest he unleash a wave of withdrawals.
The Fed’s interest rate increases have driven down the value of the bonds and other assets in regional bank portfolios. A team of academics estimates that over $2 trillion of such losses in the value of their assets have not been recognized in the banks’ books. The possibility of failures will increase if depositors “run” for investments yielding 4-5 per cent, or to such safe shelters as Jamie Dimon’s too-big-to-fail JPMorgan Chase (assets $4 trillion).
Small Businesses and Realtors Feel The Pinch
Banks with assets of less than $250 billion are responsible for 70 per cent of the lending to firms with fewer than 100 employees. They lend to commercial property developers and operators, and write mortgages to borrowers who can appeal to the local president, likely a member of the same country club, for a bit of flexibility in hard times. Their access to Dimon’s office is more limited. The tightening of credit is increasing the pressure on owners of office buildings as tenants “reduce their footprints” in response to layoffs and work-from-home. Data company CoStar estimates that as much as 83 per cent of securitized office loans will not be able to refinance unless interest rates come down, which is not in the Fed’s plans. Banks must cut back on lending to reflect the shrunken value of their assets and amount of deposits. They are struggling to accommodate troubled developers lest they inherit the keys to buildings for which, especially in the case of “B” and “C” quality older buildings, there is no market. The surrounding ecostructure of customer-free retail shops compounds the problem.
But worry not. Matt Phillips and Emily Peck of Axios note that the problems of the commercial real estate sector are unlike to create systemic risk for the economy. The bad news is that “Billions of dollars are tied up in commercial real estate, and much of that wealth could end up being vaporized.” The good news, say Phillips and Peck, is that “Commercial real estate owners are among the very richest people in America, and they can afford to see their equity wiped out.”
As a result, some 77 per cent of small business owners tell Goldman Sachs they are concerned about being able to raise capital. Others report paying variable rates of 11 per cent to renew loans that bore fixed interest rates of 6 per cent. Many are cancelling expansion projects and facilities upgrades. The small businesses that usually account for most of net job growth in the US are laying off four times as many employees as they did a year ago.
A Good Summer For The Economy Is Too Hot For Summers
Meanwhile, the American economy moves along. Consumers have plenty of money and are inclined to spend it; jobs are available; cruise ships and flights are over-booked; teenagers benefitting from their own summer pause are easing the hiring woes of service-sector businesses while reaping record high hourly rates; the housing market is stabilizing or, if share prices of home builders are any guide, about to turn upward; and the perpetually receding recession is postponed until next year.
Former treasury secretary Larry Summers describes the economy as “very, very hot”. He guesses it would take a sustained six per cent Fed benchmark rate to bring inflation down to the central bank’s two per cent target. That means, says Summers, that a soft landing represents “the triumph of hope over experience.” Powell’s hope over Summers’ experience.