The Fed Should Pray for a Recession

The Federal Reserve now faces the ultimate challenge heading into an election year.

As many long time observers have said, the Fed governors, despite their appointments, do not necessarily endorse one party or candidate over another as their overlords are the major banks which manipulate the economy to the best of their ability.

On June 12th, the FOMC will reveal their latest interest rate decision and outlook on the economy in another attempt to splatter paint and cover the rust that is appearing on the economic machine which is apparent to everyone in America.

First and foremost, inflation as highlighted by these pages and everyone with the ability to read basic numbers is sticky and probably higher due to the distorted methodology adopted by the Bureau of Labor Statistics. This puts the Fed in a box because if they dare to cut rates in this meeting, as these pages predicted earlier in the year, it could re-ignite another speculative wave of malinvestment and price distortions.

The reality however is that said malinvestment is already happening as speculation in equities, real estate, and collectibles that only have value to those infused with mind altering substances. Inflation, regardless of the current interest rate level, has yet to stay anywhere close to the so-called target of the Fed. What is terrifying is that the Fed’s favorite measure, the PCE is showing a stubborn tendency to be bottoming out now and could easily turn back up towards the 4% level.

The clean and easy path for the Fed would be to maintain rates at current levels, endure a mild recession with two to three quarters of minus 1 to minus 2% contractions in GDOP, and inflation to stabilize as some excesses are wrung out of the system, including a 20-30% reduction in overinflated commercial and residential real estate.

Unfortunately there is no indication that tolerance for such an occurrence will be tolerated by either the Federal Reserve or the political elites.

I prefer to look at the 75% of the American population versus the wealthy masses who rarely get stung by economic downturns or a collapse of demand. The inflation is diminishing the ability of the public to use their disposable income to upgrade from their current homes, purchase newer vehicles, or even resolve elective medical issues that have been neglected since the pandemic.

The first chart I shall refer to is the last true inflationary era in America, the 1970’s leading into the 1980 Presidential Election until the start of the great recovery in 1982.

Volcker’s folly was the era during the summer of 1980 where Fed Chairman Paul Volcker basically declared inflation “contained” and cut rates for both economic and political reasons heading into the election period. Instead of containing it, it set off a secondary wave of inflation that did not calm down until the next recessionary wave hit a year later (lag effect anyone?) that created a major contraction and increase in unemployment.

Fast forward to the chart for this era, staring with the panic of December 2018 until now.

The major difference is this time that since the inflationary actions of the Federal Reserve in December of 2018, doubled down during the pandemic, and then reinforced by refusing to acknowledge the inflation until it became embedded in our economic system in 2021, there has not been an official, necessary, and cleansing economic contraction.

By overlaying the inflation number from the BLS, the lack of disposable income from the April data being at a meager 1.03% is easy as to see why.

The strong consumer is quickly becoming a myth as the data reflects above. Until inflation is reigned in and Gross Domestic Income increases at a rate more than 3% above the perceived CPI-U, the economy will remain flat on its back, aka, stagflationary.

There is the dilemma for the Fed. If they elect to cut this month and next, it could accelerate a new cycle of malinvestment and speculative fervor to get the risks of a recession to after the election period. Unfortunately there does not appear to be any prospect of an “official” recession to bail the Fed out of this problem and leaves the actions up to the fiscal, aka, political system to start correcting the errors of the past.

The latter is obviously not going to happen as America’s politicians are going to continue to encourage and participate in the speculative investing insanity until the bubble pops and they are held accountable.

For Jay Powell and the Federal Reserve legacy since 1998, the judgment of history could be quite harsh as they have encouraged decades of misallocation of capital and turned a blind eye to the miscalculation of valuations for risk assets. The bill is coming due very soon and ultimately the taxpayer will foot the bill, be it via a deflationary depression or the more likely outcome, permanent embedded inflation which lasts for many years to come.

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