Inflation is north of 8% and unemployment is 3.6%. The last time inflation went above 8% and unemployment went below 4% was 1951. The last time the U.S. saw a combination of high inflation and low unemployment like today’s was seven decades ago. That makes it particularly challenging for the Federal Reserve to curb inflation while avoiding a recession.
What Economists are watching for with Inflation:
- Short-term inflation momentum
- Underlying inflation
- The balance between goods and services in the monthly PCE report
- Wage growth
- Rent costs – Zillow’s observed rent index and Apartment List’s rent estimate
- Auto costs
- Travel services – look at number of travelers passing through TSA checkpoints
- Energy – WTIC futures prices; EIA retail gas prices
The central bank must decide on an interest rate that will cap sky-high price growth without triggering a painful economic slowdown. Mortgage rates have risen almost 2.3% since Nov. to 5.25% -- the steepest rise in a six month span in decades.
- Homeowners don’t want to sell (low mortgage rate on existing loan)
- The homeowner vacancy rate has since fallen to 0.8%, the lowest in 66 years. The
rental vacancy rate is near its lowest level since 1984
- Housing costs in the U.S. have jumped from 24% of the average household budget in the early 1970s to 27% in the late 1980s to 35% in 2019
- Existing-home sales fell for third straight month to lowest level since June 2020
- New home sales make up 10% of all US homes sales, and dropped 16.6% in April (MoM) to lowest level since April 2020
Stock and bond bear markets tighten financial conditions and may mean that the Fed doesn’t have to tighten as much. On the flip side, when markets rally (like they did last week), it may mean that the Fed has to do more to slow the economy.
- Fed funds rate affects the money market. (Of course, the money market impacts the securities market)
- QE affects the securities market
- The market is acting based on what investors expect to happen
- The market is starting to expect a less aggressive Fed.
- An easing of financial conditions:
- Since early May, yields have dropped significantly
- VIX has dropped
- Fed may have to bring down asset prices to restrain inflation. So far, the impact on stocks has mainly been the higher discount rates applied to future earnings