Southern California bosses added 400,000 jobs last year.
Local wages are growing at a rate of 5.6% per unit of measure each year. The region’s houses are being sold at prices 10% higher than a year ago.
So why is the Federal Reserve so intent on destroying the good times and pushing the nation into recession?
You see, the Fed’s job is to keep the economy running while keeping the cost of living relatively stable. The central bank has raised interest rates sharply twice in six weeks because it has failed to manage inflation.
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The local consumer price index shows that inflation is running at a budget-breaking pace: 9.4% in the Inland Empire and 8.6% in Los Angeles and Orange counties. Nationally, the CPI rose at an annual rate of 9.1% in June – a 40-year high.
Two years ago, the economic hit of the pandemic prompted various parties – including the Fed – to bail out the briefly shaken economy. But “too much good” in these various aid packages means it’s now time for payback. Inflation is a wealth-depleting economic scourge that needs to be curbed.
Now, restoring economic sanity shouldn’t just be the job of the Fed, but the country’s central bank is being forced to be the adult in the room. Throughout 2022, it warned anyone who would listen that the gift-giving phase was over. Some government agencies — not all — are still in handout mode.
To cool the economy, the Fed is using its most powerful tool: shutting down the cheap money it previously sponsored. And the economy begins to falter.
“Too much demand because people have gone mad from the pandemic restrictions. Shortage of supply due to just-in-time inventory plans that have been shattered by the intermittent and unpredictable pandemic lockdowns around the world,” says economist Mark Schniepp of the California Economic Forecast. “This has led to higher prices rationing goods to the highest bidder. So the Fed’s job is simple: drive down demand for goods.”
A key measure of corporate strength — the country’s gross domestic product adjusted for inflation — has declined for two straight quarters. Let’s say politely that’s a sign of economic hardship.
Closer to home, Southern California’s hiring pace has cooled this year to 14,000 a month from 55,000 in the second half of 2021. Home sales in the six-county region are down 20% in one year. And a poll found California’s view of its financial future has suffered its biggest decline in nearly 14 years.
To curb inflation, economic influencers must work toward a hard-to-swallow goal. Of course, everyone wants higher profits or pay. But who lowers their price for the common good?
Let’s consider a dozen dangers the economy must avoid in order to deftly reduce inflation without a major business collapse.
1. THE FED ITSELF
The last time the central bank raised interest rates to today’s 2.5% was December 2018, as it attempted to cool inflation from this cycle’s peak of 3%. Yes, only 3%!
So Fed Chair Jerome Powell must get his rate-setting partners at the bank to follow his same “tough love” logic for today’s steep inflation problem.
How high could interest rates go if inflation starts to cool down? Or will inflation become secondary as the economy begins to implode? Powell could face an internal battle.
2. THE BOND MARKET
The Fed only controls certain interest rates, the rest is decided by bond traders. And these people seem to have very divided opinions.
Short-term interest rates, set by Treasury bill trading – but heavily influenced by Fed actions – have risen to around 2.5% from 1.75% last month. Meanwhile, 10-year rates – a benchmark for mortgages – fell to below 3% from around 3.5%.
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So will market interest rates rise to fight inflation? Or fall to reflect the growing likelihood that more expensive financing will trigger a recession?
3. Lender
The Fed used its checkbook to boost a once-ailing economy with mortgage rates starting 2021 at just 2.65%, according to Freddie Mac’s math.
Rates hit nearly 6% this spring before settling at 5.3% at last count. Mortgage lending has been badly hit by the rise. Refinancing opportunities are gone and home buying has stalled.
As business shrinks, will lenders take more risks with borrowers to keep credit flowing? This counteracts the Fed’s cooling plans.
Besides, it creates other risks. Remember the loose lending that led to the housing bubble in the mid-2000s?
4. SAVE
Gosh, some banks are now offering 1 year CD over 2%.
The old policy of near-zero interest rates prompted savers to spend and invest in the economy. Rate hikes are designed to get people to stop shopping and park money in safe places.
The slowing of the flow of speculative investment in assets like stocks, crypto, and real estate may cool the economy. Or kill it.
5. WASHINGTON, DC
Any verbal flak the Fed gets from the White House or Congress isn’t really a problem.
But politically-minded economic concerns or partisan needs could motivate some sort of additional federal stimulus action.
Putting more money into taxpayers’ wallets — despite political popularity — would undermine the Fed’s ability to contain an overheated economy.
6. GOVERNORS “HELP”
Uncle Sam isn’t the only government with cash. Governors from California to Florida are approving aid packages aimed at helping residents hit by the rising cost of living.
Gov. Gavin Newsom’s budget will send most Californians up to $1,050 as early as October. His archrival Gov. Ron DeSantis provided many Florida families with $450 per child, just in time for a statewide sales tax “holiday” that ends Aug. 7.
There’s just one problem with this state-level generosity toward taxpayers — it’s seeping into an economy the Fed hopes to slow down.
7. THE HOUSING MARKET
The Fed’s rising mortgage rates are rapidly cooling the real estate market.
Home seekers across the country are stopping searching amid high rates and steep prices. US outstanding sales in June – escrows – are down 20% in a year, the slowest pace since September 2011, just after the end of the Great Recession.
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8. THE ENERGY GAME
According to the local consumer price index, petrol is 50% more expensive than a year ago, electricity is up 21% and heating oil is 39% more expensive.
Yes, Econ 101 says that higher prices create more output, which ultimately lowers costs. But energy companies don’t seem to care about their current lucky breaks.
Also, energy is a geopolitical pawn. Further international unrest could spur major oil-producing nations to turn off the taps.
9. THE PANDEMIC
The coronavirus will not go away, even though most people are fed up with its impact on daily life and commerce.
Hard as it is to admit, fears of new variants and long-term health implications could help the Fed slow the economy.
Conversely, health-related business issues could cast doubt on the timing of future rate hikes.
10. THE STOCK MARKET
Long before rate hikes became a reality and recession talks became commonplace, stock prices fell drastically.
The worst first half for stocks since 1970 saw share prices fall by over 20% and led to an ‘official’ bear market. The Fed is probably grateful for this economic warning sign.
While this is a win for the Fed – speculation is falling – further sharp falls in stock values could prompt calls for an easing of rate hikes.
11. BOSSES
Most CEOs spend too much time worrying about company stock prices, so a horrible 2022 on Wall Street will no doubt revise C-suite thinking.
Many bosses will cut costs to increase profits. This saving could help dampen inflation, particularly rising wages.
Employers, from Amazon in online retail to Google in technology, Netflix in entertainment, car salesman Carvana and Compass in real estate, are already in termination mode.
12. THE SUPPLY CHAIN
How goods are manufactured, shipped, and distributed is not the Fed’s responsibility.
And yet the tangled supply chain wasn’t the only inflationary factor. An overstimulated economy caused the ports of Los Angeles and Long Beach to hand over record shipments — 16% more than before the 2019 pandemic.
If rising rates dampen consumer demand, the world’s logistics systems could see some relief. But that may not result in critical materials being produced in time to fill factory shortages.
Prime example: Missing chips are still slowing down the production of new vehicles, the prices for new and used vehicles are exploding.
FINAL EFFECT
The timing is hard to predict, but it’s a good bet that fixing inflation won’t be painless.
It took three years to bring the inflation rate below 3% from almost 15% in the 1980s. In 1990, it took a year for inflation to rise from 6% to 3%. And a year after inflation hit 5.5% in July 2008, the nation was suffering from 2% deflation.
All three of these cold snaps in the cost of living have been associated with recessions.
Would you like to assess 12 risks the Fed faces in tackling this challenging task of inflation correction? Go to my only questionnaire at bit.ly/fedrisks!
Jonathan Lansner is a business columnist for the Southern California News Group. He can be reached at [email protected]
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