Sticky Inflation – Not Abating
The Fed’s favorite measure of inflation excludes food and energy (chart, right) because they are often transitory and sometimes reverse in line with associated commodities. However, inflation of wages, services, etc., generally do not reverse themselves. Clearly, sticky inflation appears to have taken root. In our February Newsletter, it was shown that in past periods interest rates as high as the inflation rate were required to reliably bring down inflation.
The Fed is committed to avoiding stagflation by being sufficiently aggressive with its tools. However, raising rates aggressively has already broken a few banks. Raising rates a few points higher might break quite a few more banks. It’s said that zombie companies will be the next casualties – companies with heavy debt loads that are unable to afford paying significantly higher rates when their loans renew.
The Fed’s Crash Record
The chart (right) chronicles market declines following the start of Fed funds rate cuts. Street wisdom says that when rates are cut the markets will soar – but the opposite is true. By the time the Fed decides to cut, the recession is baked in the cake. However, the good news will be that bonds and treasuries should benefit handsomely from the rate reductions.
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