Seventies with a bullet

Ben Bernanke fronted the press following the FOMC meeting earlier this week and told us that QE2 would proeceed as planned and once completed the Fed would “continue to reinvest maturing securities, both Treasuries and MBS, so that the amount that we hold will remain” meaning that “the amount of monetary policy easing should remain constant going forward from June”. 

On when a withdrawal of stimulus would be appropriate, Bernanke said “it’s not clear that we can get substantial improvements in payrolls without some additional inflation risk” and “if inflation persists or if inflation expectations begin to move, then there’s no substitute for action” and “we would have to respond”. 

Looking at the first chart it is clear that the inflation in the US accelerating. The annual rate is on the rise off a low base as a series of benign months are being replaced with stronger price months:

While  Bernanke only sees this acceleration as transitory, it  will prove increasingly difficult for the Fed to keep policy setting highly accommodative without dislodging the anchor of inflation expectations with the annual rate likely to continue to rise over the coming months. Over the next three months weak readings from April (0%), May (-0.1%) and June (-0.2%) drop out of the calculation and if replaced with an average rate taken from the past 4 months will see the annual rate climb to 4.2% just as QE2 is coming to an end. It would be interesting to see the justification from the Fed to embark in QE3 with inflation above 4%:

However it the average rate from the past 4 months continues for the remainder of 2011, inflation will reach 5.5%, just short of its July 2008 peak of 5.6%, making it even harder to justify further easing of policy setting as growth remains weak. Last night’s GDP release confirms the slowdown in the US economy. The latest slowdown has been attributed to the biggest drop in government spending since 1983 as the stimulus measures are unwound and consumer spending remains low:

With austerity now on the Administration’s agenda and inflation on the rise as growth is slowing, the US is confronting the return of that seventies show: stagflation.

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  1. The value of the obligation of the Federal Reserve Bank, that being the US dollar, is, like any banks’ obligation, only as good as the assets it holds to match said obligation.

    The assets the Fed holds are US Treasuries, MBS of more than 10 years duration & supposedly some gold certificates, so actually obligations, from the same US Treasury.

    The chances of more ‘inflation’ are good & there’s nothing the Fed can do about it since if no-one wants US Treasuries, a definite possibility in the near future it has only worthless MBS to attempt to maintain the value of the US dollar. Raising interest rates means nothing.

    By the way, the RBA operates on the same principle, since it to is a bank.

  2. The point here in Australia is that unbalanced economic growth, jobs (and wages) and houshold debt are likely to be the focus of the political landscape in the next few years. Despite the neoliberal fetish and widespread faith in ‘microeconomic reform’ over the last 30 years, we could very well see a return to some of the feelings and sentiments of the late 1970s – particularly if Australia’s Gini coefficient continues to rise at the rate which it has over the last seven years.

    While overall labour productivity in Australia has been relatively flat for the last decade, a look at different industries (from the ABS data) reveals an interesting picture. Over the last 10 years, labour productivity in manufacturing (the ‘whipping boy’ of the Australian economy), retail trade (the ‘child labour’ sector) and scientific and technical services (the ‘forgotten’, um, whatever-it-is) increased by around 25%. Meanwhile, labour productivity in mining (that ‘loveable darling’) declined by about 45% over the period.

    In which industries is wage growth occuring most rapidly? Not the ones with productivity growth – that’s where falling wages and sackings (particularly in the case of manufacturing) are the norm… and will intensify in the year or two (or three or more) ahead.

  3. Stagflation – that most fiercesome of economics beast; the great tug of the market in one direction, and a roughly equal and opposite great tug from govts/CBs in the other direction.

    Welcome to the future, eh?

  4. Reminds me of a 12″ record I purchased when I WAS A LOT YOUNGER…..on a more serious note, does ‘the Ben Bernank’ really understand the Pandora’s Box that is being opened here?