Ed Yardeni: The Economy is Running Hard, Not Hot

by Laura Ehrenberg-Chesler on October 22, 2018

in Economic Indicators,Employment,Fed policy,interest rates

Today, from Ed Yardeni:

In recent weeks, Fed officials have been signaling that the economy may be too strong. No doubt, it has been running hard thanks, in part to President Donald Trump’s tax cuts. But it has yet to show any sign of running too hot—i.e., hot enough to kindle inflation fires—based on the latest data from inflation barometers including the core CPI, PPI, import prices, and average hourly earnings (the most widely followed wages measure).

Indeed, average hourly earnings has been rising at a remarkably subdued pace despite the tight labor market. No wonder both the President and Larry Kudlow, director of the White House’s National Economic Council, are upset with the Fed for raising interest rates. They believe that their supply-side policies can boost productivity-led economic growth without heating up inflation. While they are stepping on the accelerator, the Fed is tapping on the brakes.

That conflicting mix of fiscal and monetary policies has sent stock prices spinning over the past couple of weeks. Recently released Q3 corporate earnings reports have just compounded the instability: Some companies are reporting results confirming that the economy is doing just fine, while others—particularly the more cyclical ones—have been bruised by rising interest rates, rising oil prices, and the strong dollar; their earnings reports have raised warning flags about the economy. The mounting fear is that Fed officials are on course to make a serious policy mistake, i.e., moving interest rates higher too rapidly despite the cracks showing up in some earnings reports.
Perhaps most unsettling: Some Fed officials have signaled in the weeks since their September 25-26 meeting that the economy may be so strong that they might have to raise the federal funds rate higher than they had mentioned doing in the past. That would be unfortunate given how well they’ve prepared the financial markets for a federal funds rate raised to 3.00% by the end of 2019. Now they’re talking more about 3.40% in 2020. Is that really necessary? A “gradual normalization” of the federal funds rate to what they’ve claimed is a “neutral” rate (3.00% in 2019) has been clearly telegraphed and is widely anticipated. Why suddenly speculate about turning restrictive in 2020?”

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