With Jay Powell set to release an annual statement around the 2023 Jackson Hole Economic Symposium today, you have to sit back and think that a US economy with a 3.5% – 3.6% unemployment rate, a still-strong and healthy US consumer as measured by cash balances and the recent July retail sales report, the US stock market within driving distance (golf metaphor) of it’s early 2022 all-time-highs, and despite numerous interest rate increases, a still relatively healthy housing market, the esteemed Fed Chair might take a little victory lap around the countryside this weekend.
However, none of the above really matters: the Fed can never truly relax and say, “Things are great.” And the Fed Chair likely won’t. It’s rather difficult to conceive of any kind of scenario where the Fed Chair is “dovish” in his coming statement. The mainstream financial media never talks about the fact that inflation – which is the big enemy today of the bond market – is still better than deflation or what the average American experienced from 2007 through the 4th quarter of 2016.
Deflation is a truly ugly condition and the “liquidity trap” that the US economy was faced with in late 2008 and 2009 was as grim as the Great Depression of the 1930s. Deflation paralyzes CEOs, investors, and home buyers since it results in the hoarding of cash and a significant reluctance to take any kind of risk of owning assets. Deflation benefits neither the borrower nor the lender since the borrower will watch the value of the asset decline, while the lender will generally refuse to lend, given the very low-interest rates typically attached to deflationary periods. Only cash wins during deflationary periods.
Inflation is ugly too, but it’s really hyper-inflation like the kind experienced in pre-World War II Germany, where economic texts have written about the German people needing wheelbarrows to carry deutschmarks to the grocery store just to buy bread, only to find upon arriving that the hyper-inflation had driven the price of bread and milk even higher in the last few hours, that do the most damage.
(Hitler came to power in Germany after WW I, thanks to the extreme economic stress imposed on the German people after WW I and the Treaty of Versailles. That’s why the US rebuilt Europe under the Marshall Plan, and also Japan after WW II, to prevent the kind of economic catastrophe that followed WW I.)
Inflation cheapens the value of cash since purchasing power is eroded, but what’s interesting is that inflation benefits mortgage holders since inflation lowers the value of what we think of as nominal liabilities. The whole point of the post today is simply to communicate to readers that what the US economy experienced from 2007 through – really 2013 – was one of the worst periods since the Great Depression of the 1930s in terms of deflation and economic uncertainty.
Today, in 2023, the inflation being seen is just not as bad as in the first 13 years of this new century. What I tell clients when I talk to them about the stock and bond markets and bear markets is that when the stock and bond markets fall (bear markets), clients can get agitated and upset, but when housing prices fall (generally and nationally as they did in 2008), clients get scared.
Having just finished reading Ben Bernanke’s “The Courage to Act”, a great read if you get the chance, although many readers of this blog may have lived it, is that the Fed and Ben Bernanke didn’t really acknowledge the deflation threat until after Bear Stearns and Lehman both went belly-up in 2008.
I can still recall Richard Fisher, the Dallas Federal Reserve chair, on CNBC in August 2007, advocating for fed funds rate increases at that time, just as the hedge fund issues were starting at Bear Stearns in August 2007. In “The Courage to Act,” Ben Bernanke is quite honest about the hawkish monetary policy that was maintained far too long, even as the various Federal Reserve and FOMC participants were witnessing an increasing contagion within the mortgage business.
The Fed’s bias is always “tighter,” “hawkish,” and “tougher,” and the moral suasion and jawboning to bring whatever inflation is out there to come in lower for longer. It’s hard to conceive how any statement set to emanate from Jackson Hole on Friday morning, August 25th, given the current unemployment rate, and labor market, will be anything but “let’s strip the bark from the trees” frightening to bond investors.
4.35% is the key level for the 10-year Treasury. A heavier-volume yield close above 4.35%, and this resistance range could be history. Some clients have a small Treasury short on through the TBF (inverse Treasury ETF) as these critical 10-year yield levels are tested.
Personally, the jobless claims number indicated a still healthy labor market, and public market credit spreads – (mainly high-yield credit) remain well contained.
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Take all of this as one opinion, and there are blog posts that are written simply to talk about a particular perspective and provide some color on the common thought-process that tends to dominate stock and bond markets. None of this is advice, and any information provided may or may not be updated in a timely fashion.