Things Can’t Get Any Worse

The title summarizes the line being put out by Wall Street and amplified by the financial press. The logic is that it is then time to buy stocks. And it is working, stock indexes are rallying strongly as retail inflows into mutual funds and individual stocks have resumed. In turn, hedge funds and CTAs must follow, to say nothing of the resumption of buybacks as earnings season comes to an end.

Of course, things can and will get worse. The impact of input costs and other supply constraints such as war, drought and ill-advised climate change politics have hardly been felt yet in retail prices, even though they have risen substantially. Energy prices continue to be driven higher by the same bad science and emotional political campaigning. Then of course there is the labor shortage, caused by more bad government decisions partly around the pandemic, but mostly about socialist “progressive” politics.

The excess demand for labor demonstrated by the chart above means that the economy will have to slow considerably before pressure on labor costs is eased. But while rising labor costs impact inflation, they don’t mean that personal income is keeping up with inflation as food and energy prices accelerate away.

All of the above mean that the current recession will have a long way to go before inflation is reduced. Once the genie is out of the bottle, she doesn’t go back in willingly, as Paul Volcker’s efforts to contain her in the 1980s show.

Supposedly the Fed will “pivot” back to easy money (well, even easier, money is still easy with deeply negative real rates) as soon as this third quarter. Well, maybe it will – the Fed’s politically driven monetization of government debt is what has brought us here, after all. But that will bring about true hyperinflation and I doubt that Powell wants to go down in history as the Fed chairman who put politics before sound economics to complete his ruination of the world economy. I say the world economy because central bankers move in unison to avoid individual criticism.

Labor chart thanks to zero hedge, Personal Income chart thanks to Donald Swain, CFI CPA.