The Fed continues to telegraph their preference to maintain the language in the FOMC statement regarding “exceptionally low levels of the Fed Funds rate for an extended period” and today’s economic data only provides more support for that stance. CPI shows no inflation.
Last week the Minneapolis Fed President (soon to be voting member) expressed his support of the “extended period” language and this week Cleveland Fed President Pianalto (current voting member) did the same.
Pianalto’s remarks were in a speech to the Economics Club of Pittsburgh. The bulk of her speech was directed at how the Cleveland Fed does their forecasting (yawn), but at the end she tacked on her current thinking with regard to the economy…and therefore provided a clear window to how she will be voting.
She began by reiterating the Feds dual mandate of maximum employment and stable prices. The bit about “maximum employment” has to be a tough bit lately…but with inflation nowhere in sight I’d give them an “A” on stable prices…for now.
I’m going to skip over much of the material she covered…it was basically a “Forecasting 101” type presentation. Where things get interesting for you and I is toward the end where she lists her yardsticks for measuring the health of the economy, where they are, where she sees them going, and what that means for the Fed Funds rate.
Use the Force
Force 1 - Unemployment
Pianalto lists two major “forces” affecting the recovery from this recession. The first is Unemployment, the second is a “heightened sense of caution” among Americans.
With regard to Unemployment she points out that half of those that are unemployed have been that way for at least 6-months. Over that time period essential job skills can erode which leads to lower productivity if/when you do get a job. In many cases the unemployment will be structural…meaning that the job just ain’t coming back. This leads to an even greater loss in productivity because now you have workers looking for jobs outside of their industry…jobs for which they don’t have any skills. The longer the Unemployment rate remains elevated the bigger the negative impact from these forces.
Force 2 - Caution signs
The next force is that of the “heightened sense of caution”. I’ve referred to this as a “change in behavior” over this cycle. This is the type of economic event that leaves a deep and long lasting mark on those that travel through it. If you lose your house you remember it ‘til the day you die. If you go 6 to 12 months with no job you remember the pain and uncertainty that accompanies that status…and you will do whatever it takes to avoid being in that position again. It’s the type of thing changes behavior going forward...by definition your behavior over the next 5 years won’t resemble that of the last 5 years. This evolution toward more defensive behavior (one might also call it a return to more rational behavior) will in turn serve as a drag on GDP (one of several).
Pianalto gives further evidence as to the “heightened sense of caution” among Americans:
“In a recent survey by Ohio's Xavier University, 60 percent of those polled believe attaining the American dream is harder for this generation than ones before. And nearly 70 percent think it will be even more difficult for their children. Many people are now just aiming for “financial security” as their American dream.”
Many people are just aiming for “financial security” as their American dream? If that doesn’t signify a seismic shift in behavior then I don’t know what does. It’s no longer that people want a house, 2.5 kids, a big screen TV and an SUV. Now the goal for many Americans is simply to avoid be kicked out on the street with no job. Do you remember Maslow’s Hierarchy of Needs from Psych 101 in college? People aiming for “financial security” as their new goal just got knocked down a few notches on that pyramid. The need for recognition and social status has perhaps been replaced with the need for survival.
Pianalto sums up her outlook on the “two forces” with the following: “These two factors—overall caution and the effects of labor market damage—lead me to an outlook for relatively subdued output growth through this year and next, with unemployment rates that decline only gradually.”
So here she echo’s the same sentiment as the Minneapolis Fed last week…there will be no quick recovery and expect the unemployment rate to remain high.
Moving on to the Inflation front she says that current data point to disinflation rather than inflation. Of the two measures that the Cleveland Fed uses to track inflation they have both been on a disinflationary trend since the middle of 2008.
Her conclusion
For the next couple of years, I expect employment levels to remain well below what I would consider full employment. Similarly, I expect inflation to only gradually drift up from its currently low level but nonetheless remain subdued. In my view, this outlook warrants exceptionally low levels of the federal funds rate for an extended period of time.
Put Pianalto down in the column that lists “people voting to keep rates at zero”. Before the month is up we’ll have more statements from Fed Vice Chairman Kohn (retiring on June 23…Yellen will replace), NY President Dudley, St. Louis President Bullard, Chairman Bernanke, Richmond’s Lacker, Philadelphia’s Plosser, and Chicago’s Evans. The next FOMC meeting is on June 23rd.
Vice Chairman Kohn retires at the next FOMC meeting. I picture his retirement party at the Fed being more of a “sheet cake and fruit punch in the lobby” type of deal where they present him with a big oil painting of his likeness that will hang in the hall at the Fed rather than the “midnight flight to Vegas” type. If I’m wrong, and if anyone out there has an extra wristband that will get me in to the Vegas party let me know…I’d pay top dollar to see the open market committee let loose in Sin City.
I’ll provide more color as we hear from the other Fed members over the remainder of the month. If you have any questions or if there is anything I can be doing for you just let me know.
Steve Scaramastro, SVP
800-311-0707
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