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THINKING OUT LOUD

By: Tony Minopoli

When the recent CPI data was released, it exhibited that annual inflation is running at 3.2% year-over-year for headline inflation and 4.0% excluding food and energy[1]. A key piece to note is that headline inflation was flat for the month of October. The thinking is that maybe we have seen the peak of this current inflation cycle and the Fed might even be in a position to cut rates in 2024. A real, honest-to-goodness soft landing. Did this inflation print change the game? Not really. However, it does show that prices are not in an unending upward pattern.

As many know, I am a little obsessive about the state of the employment market. This is not a complicated obsession, but rather one focused on the consumer representing 70% of consumer spending; that very spending has a material impact on the path of our economy. In our recent history, unemployment bottomed at 3.4% in January 2023 and has since risen 0.5% during the 10 months in the books[1]. Unemployment was 3.5% in February 2020, the last month without a COVID-19 impact on American labor statistics[1].

What does this all mean and what is causing me concern? First, as a person raised in the bond market, we bond people are always worried about something. This morning I was telling a few of our analysts that when we are looking at current economic environments it is always tempting to consider that this time is different. Beyond my oft-stated that “I have learned that I am smart enough to know that I am not smart enough to time the market”, I have also learned that when faced with a new set of market realities, “this time” is more often than not, similar to past environments. With that as a consideration, I am weighing the impact of the Fed trying to manage inflation in a downward direction if employment remains strong. 

If the Fed successfully slows the economy with the impact of the increased Fed Funds rate, it will likely occur with a concurrent increase in the unemployment rate. My thinking is that the unlucky in the unemployment line will be spending less and even employed people will more carefully manage their spending because they will be concerned about the direction of the economy and their own employment status. This outcome of lower spending will be a positive feedback loop for the Fed’s desired outcome, and we should see inflation slow. If, however, employment and wages remain in good shape, the “higher for longer” path for the Federal Funds rate may mean even more restrictive monetary policy and this could engender something more sinister than a soft landing.

As the title indicates, I am thinking out loud, but the scenarios for declining inflation need to be taken into consideration with the path of the employment market. There will certainly be more to come on this, but I thought I would pass along my thoughts on the current market environment.

 

[1] Source: Bloomberg

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