The market is tanking! Why?

On Friday, all three major U.S. stock indexes suffered their worst losses in two months:

The Dow Jones Industrial Average plunged 3.03%;

The S&P 500 fell 3.37%;

The Nasal 100 index plunged 4.11%.

The reason, according to Federal Reserve Chairman Jerome Powell, speaking at the annual gathering of global central bankers in Jackson Hole

The first Jackson Hole Annual Meeting of global central Banks began in 1982.

At that time, the US economy had experienced more than a decade of stagflation, and the unemployment rate had skyrocketed from a low of 3.4% in 1969 to 9.7% in mid-1982. The economy was in a deep recession.

In the United States, factories were closing, workers were losing their jobs, and farmers who couldn’t pay their loans were driving trucks into Washington and blocking the Federal Reserve headquarters.

In addition to the avalanche of expletive letters, ordinary farmers and workers hate the Fed, including lawmakers, economists, Wall Street bosses, journalists… Both gnashed their teeth at Mr. Volcker, and Congressman Henry Gonzales declared:

“[Mr. Volcker] crossed a line of conscience and legitimized usury.”

In late August 1982, Paul Volcker, then chairman of the Federal Reserve, was blamed by Americans for the recession by sharply raising interest rates and reducing the money supply in the United States. In the small town of Jackson Hole, he went to the central bankers of the world to explain his monetary policy choices.

Now, the Congressman was right. Volcker, at the time, raised the Federal Reserve’s benchmark interest rate to an all-time high of 20 percent, the official dollar benchmark rate, 20 percent. You say, is that “legalizing usury

But it was these super-high interest rates, combined with his management of the growth of the money supply that helped Mr. Volcker tame 15 years of stubborn inflation in the US.

In the winter of 1982, the U.S. economy and the world economy reached a historic inflection point, and the U.S. stock market, after nearly a decade in the doldrums, was beginning an epic bull market.

Broadly speaking, the great bull market in US stocks, which has lasted more than 40 years, has continued to this day.

In the first half of 1983, the inflation rate of the United States, which had been above 5% for years, dropped to 3.2%? In the following two years, it was around 4%. The economy of the United States also began to pick up.

In some ways, Mr. Volcker’s tightening opened the biggest space for monetary policy in the US over the next 35 years and set the stage for the next 40 years of global prosperity.

This year marks the 40th anniversary of the first annual Jackson Hole central bank meeting.

Perhaps it was a tribute to Mr. Volcker in 1982, when Jerome Powell, the chairman of the Federal Reserve, delivered a rare conciseness speech.

Powell’s speech, titled “Monetary Policy and Price Stability,” contained only 1,300 words and lasted less than 10 minutes. In my opinion, this is the highest level of Powell’s speech in history, taking responsibility and doing it cleanly.

Mr. Powell began by saying that “the priority is to get inflation down to our 2 per cent target”.

Instead of the usual Hegelian dialectic between the economy and inflation, Powell made it clear that “price stability is the Fed’s mandate and the cornerstone of the economy.” Furthermore, “without price stability, the economy no longer benefits the masses” and “the burden of high inflation falls on those least able to bear it”.

Powell also said that raising interest rates could cause the U.S. economy to fall into recession.

“Restoring price stability will take some time and will require vigorous use of our tools to bring demand and supply into better balance. Reducing inflation is likely to require a sustained period of below-trend growth. Labor market conditions are also likely to weaken somewhat. While higher interest rates, slower economic growth and a weak job market would lower inflation, they would also cause some pain for households and businesses. These are the unfortunate costs of lower inflation. Failure to restore price stability, however, would mean more pain.

Powell also acknowledged that U.S. economic data has been mixed, but he argued that the U.S. economy is now doing a little too well, based on the jobs numbers, for inflation to fall less than the Fed wants:

“Our economy continues to show strong underlying momentum. The Labor market is particularly strong, but it is clearly unbalanced, with demand for workers vastly outstripping the supply of available workers. Inflation is well above 2% and high inflation continues to spread through the economy. While the low inflation reading in July was welcome, the one-month improvement was well below the level needed to reassure the committee that inflation is declining.”

With inflation well above 2 per cent and the job market extremely tight, it is not time to stop or pause, even after reaching the projected level of long-run neutral interest rates.

The July increase in the target range was the second 75 basis point increase in as many meetings, and I said then that another unusually large rate hike might be appropriate at the next meeting… At some point, as the stance of monetary policy tightens further, it may become appropriate to slow the pace of rate hikes.

“The restoration of price stability is likely to require a restrictive stance of policy for some time, and the historical record strongly cautions against easing policy too soon… By the end of 2023, the median fed funds rate is just under 4 percent.

Powell went on to specifically review the high and volatile U.S. inflation of the 1970s and 1980s and the low and stable inflation of the past 25 years, offering three lessons for the Fed, which I summarized as follows:

1) Central banks can, and should, take responsibility for low and stable inflation. Our responsibility to achieve price stability is unconditional.

2) Public expectations of future inflation play an important role in setting the path of inflation over time. The higher inflation is the more people expect it to remain high and incorporate this belief into wage and pricing decisions.

3) We must keep raising rates until the job is done.

Powell’s speech, as a whole, is that brief, but we all know —

The fewer words, the bigger the deal

In his speech, Powell announced that the Fed will continue to raise interest rates aggressively, and that this will soon be reflected in the Fed’s September meeting, and that the Fed will only consider stopping rate hikes if inflation is significantly lower (the so-called “job done”).

In the hours leading up to the Jackson Hole meeting, CME interest rate futures showed the odds of a September rate rise of 0.5 per cent and 0.75 per cent respectively hovering around 50 per cent. After Mr. Powell’s speech, expectations for a 0.75 per cent rate rise in September surged ahead, so the market interpreted Mr. Powell’s speech as a continuation of the “aggressive rate hike”.

It was the sniff that the Fed was still about to raise interest rates sharply that frightened the capital markets and sent them tumbling.

To be honest, this is the first time in all my financial writing that I have praised the Fed chair’s speech.

What a pity —

Advertising is good, not as good as the new flying refrigerator;

Action is better than good talk.

When Powell talks so well, why print unlimited QE?

In the first half of 2021, why kid you that inflation is temporary?

Why pass the blame on supply chain problems when inflation is clearly rising in early 2022?

It seems to me that what the Powell Fed, and indeed any central bank in the world today, is best at is creating an inflation problem and then saying, with the right swagger, we’re going to control inflation.

This inflation-creating and inflation-suppressing trick was at the heart of what central banks did in the fiat era.

Going back to the capital markets, even if Powell is so hawkish this time, and for the first time ever, I still think it will be the last time Powell will be so hawkish. In the absence of a war between China and the United States, if the stock market falls this time, there is a high probability that it will be the last.

Further, why did Powell hawk so much this time?

Of course, it is the employment and unemployment data in the United States that gives him unlimited confidence. So, in the next post, I will take a good look at the current employment and unemployment situation in the United States.



Leave a Reply

Your email address will not be published. Required fields are marked *