I’ve done a deep dive on JPOW’s press conference from 2 days ago.
DISCLAIMER: I am not defending JPOW, I am just laying out his plan and position.
We’ve all heard that JPOW believes there will be a soft landing. Meaning inflation will come down without rate hikes sparking a recession. People make fun of him without understanding his evidence or strategy.
Robust job growth
In the past 3 months, employment has risen by an average 408,000 jobs. While less than before, it’s still a very strong number.
There is a surplus of vacant jobs. This is evidence by stagnant labor participation that hasn’t changed since January.
Jobs are increasing but labor participation is subdued. As a result, wages are high, unemployment is low.
Strong Consumer spending
Consumer spending has not faltered according to JPOW. Demand is still high with low supply. The theory is, raising rates will lower demand. With lower demand, supply prices will go down. This comes with the assumption that non-commodity inflation has been caused by a supply crunch.
JPOW contends, low consumer sentiment is a result of gas prices and the stock market. He sites unwavering consumer spending as proof that low sentiment is over gas prices and stocks. People are still spending for other things, they are just upset about gas prices and their worthless calls.
He admits retail sales have gone down. This is a result of consumption shifts because again, consumer spending did not go down. People are paying more for gas and less for retail products. While this isn’t great, it shows the consumer is still in a good financial position. Thus, the “U.S. economy is in a strong position and well-positioned to deal with higher interest rates.”
Inflation
Inflation is bad and the fed knows it. Hence the more aggressive rate kick.
JPOW believes an eventual interest rate of 3.8%-4% will be enough to bring demand down. Yet, he is adaptable to higher or lower depending on how hot inflation runs. Now the question is, will lowering demand cause a recession or a soft landing?
JPOW’s humility
As I’ve delved deeper into this, it appears JPOW is not a confident as my title would lead you to believe. He is humble enough to admit that there are many factors that are out of the feds control. The Ukraine war, commodity prices, and supply issues are external factors that are unaffected by monetary policy. The hope is rather than supply meeting demand, demand will meet supply via higher interest rates.
For example, Instead of increasing the supply of chips to meet demand, the fed aims to decrease the demand for chips so there’s no more imbalance. While it’s guaranteed, when demand comes down, prices will hopefully come down.
Many of you may be surprised to hear this but JPOW said himself: “much of it is really not down to monetary policy”
Monetary policy alone will not lead to a soft landing. External factors need to also line up to bring inflation to the feds goal of 2%.
He can’t always make pie in the sky statements about how everything will workout. Acknowledging the precarious situation ultimately gives people more confidence in him.
Why won’t this cause a recession
The fed projects that rate hikes will raise unemployment to 4.1%. JPOW argues that this increase in unemployment is still at a historically low level. He presents many other reasons like strong consumer spending, etc. Much of his reasoning have already been iterated above.
This brings me to my most important conclusion:
JPOW is the wizard of OZ
Currently the public, according to JPOW, sees the fed as successfully able to bring inflation down to 2%. He specifically said “successful” in bringing down inflation. Previously he defined success as as a soft landing. Bringing down inflation at the cost of sparking a recession is not a soft landing. Therefore, the public must have confidence that the fed can make a soft landing for the soft landing to occur.
He states, regarding the feds ability to be successful, ”It's absolutely key to the whole thing that we sustain that confidence.” This is why he argues tirelessly that the consumer is strong and the economy can withstand rate hikes. Public confidence that recession will not happen is key to preventing a recession.
Markets are forward looking. It is not without merit that belief in a recession is a self fulfilling prophecy. Panic causes financial collapse more than anything else.
This is also the reason why Treasury Secretary Janet Yellen said she does not believe a recession will occur.
Public sentiment shifting towards recession expectations could be the tipping point that would prevent JPOW’s soft landing.
TLDR: JPOW will cancel the recession by convincing people a recession will not happen.
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