Ben Bernanke told us yesterday that inflation “could move lower from here,” obviously suggesting that any Fed tightening is a long way off. These comments got the market’s attention, particularly after Friday’s surprisingly benign jobs number.
However, I think Bernanke is essentially telling us that the Rebel base is on Dantooine. He doesn’t really think inflation is likely to fall from here. Consider his actual words: “Inflation is affected by a number of crosscurrents. High rates of resource slack are contributing to a slowing in underlying wage and price trends…” What is he saying? Currently, we have too much excess capacity to produce. Should aggregate demand expand, firms will soak up some of the slack, but its a long way from being inflationary. Its a little Keynesian, but its probably correct given the extreme amount of slack we currently have.
But that line of thinking only holds if Friday’s improvement in unemployment is a one-off. And it might be. But what if it isn’t? Its fair to say that this number was hardly out of the blue if you consider the previous trend. The Non-Farm Payroll statistic has been steadily improving for several moneths. Additionally, consider all the data we’ve seen in the last three months or so. Almost universally its been pointing to a muted recovery, but a recovery none-the-less.
The Fed won’t be able to justify zero interest rates if unemployment starts falling.
There are already plenty of hawks on the FOMC. So far they haven’t actually dissented but I think that merely reflects a willingness to acquiesce for now given how fragile conditions are. Read the recent speeches from hawks like Plosser or Fisher. You’ll hear a consistent theme. Yes, I think extreme measures are warranted… for now.
If we see resource utilization (including labor) improving, the hawks will no longer be willing to give in “for now.” Because the “now” will be something totally different. I’ve said it several times. There is plenty of room between zero fed funds and tight money. 0.5% would still be accommodative. 1% would still be accommodative. Hell my Taylor Ruleextreme measures are warranted… for now estimate says 2% is right, so even 1.75% would be somewhat accommodative!
Now consider the position in which Bernanke finds himself. We have to remember that the man can hardly just go out there and speak his mind. When he saw the actual jobs number, (whether or not that was before the rest of us) I’m sure he was as surprised as we were. I’m sure it occurred to him that this could be a game changer. But can he come out and say that? Of course not. What if it really is just a one-off and actual job improvement is a long way off? Publicly, Bernanke has to wait until he’s much more certain before saying anything too definitive.
So he goes out and tells the world that inflation could fall further, implying that monetary policy will remain as is for an extended period. I just don’t buy it. If Non-Farm Payrolls turn positive in the next 2-3 months, we’ll get a fed funds hike by June.
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