Monday, March 9, 2015

Dear Federal Reserve: *Now* is the time to raise interest rates? RLY?? SRSLY?!?

 - by New Deal democrat

I am at a complete loss as to why the Federal Reserve might think that now is the moment to begin raising  interest rates.  I cannot see a scintilla of hard evidence in support, and potent evidence against.

The theory is that the Federal Reserve must start to "normalize" interest rates in order to stave off inflationary pressures, particularly inflationary pressures from wages.

Here is the last 65 years of consumer inflation YoY:

In that entire time, the only occasions on which there was less inflationary pressure than there is now is immediately after the 1950, 1952, and Great Recessions.

The situation is even more compelling when we look at the rolling 3 month average of average hourly earnings:

(h/t Doug Short for preparing this graph)
In the last half a century, there have only been 2 three-month periods, from November 2011 through February 2012, when there was less inflation than there is now.

In other words, of the last 600 measurements, only 2 of them have been less than now. That's 1 in 300. In other words, we are in the bottom 0.05% of all measurements.  99.5% of the measurements have shown more inflationary pressure than now.

And it's not likely, based on your own core measure, that  we will see much inflationary pressure in the next 12 months. Because as you well know, just as core inflation tends to predict the direction of all prices in the next 24 to 36 months, so it takes 12 months or so for current gas prices to feed through into the rest of the economy:

In other words, it is likely that the core inflation reading is going to move lower for the rest of 2015.

Now let's look at wage "growth." Here is nominal YoY wage growth for the last 50 years:

Wages now are putting less pressure on prices than at any time in the last 50 years with the exception of 8 months in 2012.  This is wage pressure??? Again, of the last 600 measurement periods,  only 9 of them have shown less pressure than at present. That puts us in the bottom 1.5% of all time periods in the last 50 years for wage pressure.

I realize that the unemployment rate just fell to 5.5%, and you think that inflationary pressures might start to build as unemployment falls to 5%.

But your own staff has just published a paper indicating that the percentage of long-term unemployed (i.e., people unemployed 27 months or more) is an independent factor in calculating when wage pressure might begin to build.  And here's what that looks like now:

Higher than at any point in the last half century with the exception of the last few years, and coming out of the 1981-82 recession.

And 5.5% unemployment now is not the same as 5.5% unemployment 10 or 20 years ago.  Here is the percentage of the labor force consisting of full-time employees (blue) compared with inflation (red):

In 1998 and 2002 when inflation started to increase off the bottom, the  full time employees were 78.3% and 77.6% of the labor force.  Now they are only 77.0% of the labor force.

And that's not all.  Here is that same information (red) compared with full time employees as a percentage of the labor force plus those who want a job now, but are so discouraged they have dropped out of the labor force (blue):

In 1998 and 2002 respectively, those not in the labor force who wanted a job were 2.7% and 2.5% of the total.  Right now they are 3.1% of the total.

So, to summarize, inflation is in the lowest 1% of all times in the last half century, wage growth is in the lowest 1.5% of the last half century, we still have extraordinarily high long-term unemployment, and a unusually high percentage of part-time employees and discouraged workers even taking into account the current unemployment rate.

Finally, just consider the historical record, limited as it is, of when the Federal Reserve has raised interest rates in the present of out-and-out deflation.

This has happened only once since World War 2:

and three times before - in 1928, 1930, and 1937:

Correlation is not causation and all that, but that's 3 out of 4 times with disastrous results.  Do you like those odds?

In short, you know that raising rates will put additional pressure on wages and employment. So you think NOW of all times is the appropriate time to raise interest rates.  Really?? Seriously?!?