Power & Market

As Inflation Rises, the Fed Is Losing the Narrative

Another week, another economic report far worse than expectations.

As Vladimir Zernov notes:

U.S. has just released Inflation Rate and Core Inflation Rate reports for June. Inflation Rate grew by 0.9% month-over-month in June compared to analyst consensus which called for growth of just 0.5%. On a year-over-year basis, Inflation Rate increased by 5.4% compared to analyst consensus of 4.9%.

Core Inflation also exceeded analyst expectations, increasing by 4.5% year-over-year compared to analyst estimate of 4%.

Just as important as the official numbers is the growing drumbeat of Fed skepticism outside of its usual critics. This week prior to the new Consumer Price Index (CPI) report, the Wall Street Journal published the results of a survey of economists forecasting inflation higher than the Fed’s projections.

Economists surveyed this month by The Wall Street Journal raised their forecasts of how high inflation would go and for how long, compared with their previous expectations in April.

The respondents on average now expect a widely followed measure of inflation, which excludes volatile food and energy components, to be up 3.2% in the fourth quarter of 2021 from a year before. They forecast the annual rise to recede to slightly less than 2.3% a year in 2022 and 2023.

That would mean an average annual increase of 2.58% from 2021 through 2023, putting inflation at levels last seen in 1993.

Last week, the International Monetary Fund’s (IMF) Kristalina Georgieva also warned that the Fed may be underplaying inflation risks.

The world is also keeping a close eye on the recent pickup in inflation, particularly in the U.S. We know that accelerated recovery in the US will benefit many countries through increased trade; and inflation expectations have been stable so far. Yet there is a risk of a more sustained rise in inflation or inflation expectations, which could potentially require an earlier-than-expected tightening of US monetary policy.

For an institution like the Fed, the growing recognition that its future projections are entirely unreliable is as important as troubling inflation reports. Central banks recognize that the ability to shape the narrative is a vital policy tool. A Fed whose forecasts lack credibility is a Fed in trouble and one that may be panicked to act in ways that contradict previous statements.

This explains why today’s inflation report raised market expectations that the Fed will end up increasing rates by the end of 2022, quicker than what most Fed members projected last month.

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Source: Bloomberg via Tyler Durden, "Stocks, Bonds, and Bitcoin Slammed after Surgin CPI; Dollar, Rate-Hike Expectations Spike," July 13, 2021, ZeroHedge.

It should go without saying that the Fed’s issues go well beyond bad forecasting. The monetary hedonism of America’s central bank is one of the great policy disasters of the current century. Eroding mainstream confidence in the Fed’s forecasting is a factor that could help shape the timing of the next financial crisis.

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