Economic Commentary

When the financial crisis and resulting severe recession took place in 2008, we offered that the recovery would be long in duration and reflected in incremental progress along the way. The essential reason for that observation was the knowledge that the recession of 2008 was not a typical business cycle recession, but rather one that was caused by a collapse of the banking system and a freeze of liquidity. The economic cycle that we currently find ourselves in is somewhat of a hybrid cycle in nature. We experienced 122 months of uninterrupted growth before experiencing a pandemic that created a two month period of extreme deceleration of economic activity followed by twenty-eight months of sustained growth in GDP. The economic indicators in the last twenty-eight months did not move incrementally, but rather with unusual velocity. All of the normal leading and trailing indicators that we regularly use to evaluate the state of the economy moved rapidly, including those indicators that measure inflation. The majority of economists, including those at the Federal Reserve, reasoned that the inflationary pressures we were detecting were caused by the interruption of the global supply chain caused by the pandemic, as well as the velocity of consumer demand created in part by the direct aid to consumers during the pandemic in most of the G7 economies. Russia’s invasion of Ukraine accelerated the rise in energy prices and added to global inflation rates. Over longer periods of time, market forces can solve equilibrium issues in supply and demand and ultimately reduce demand and lower prices, but that process if not assisted by government intervention is long in duration and painful to the consumer. Perhaps late to the inflation battle, the US Federal Reserve began their intervention in the inflation cycle by raising the cost of debt through the process of both reducing liquidity in the system and increasing the rate charged to banks to borrow money at the Fed window, often referred to as Fed Funds rate. The strategy of increasing the cost of debt is to impact decisions that consumers and businesses make on the buy side of the equation. It is a strategy to increase the velocity of normal market force equilibrium in the supply and demand cycle. Fed Funds rates have increased from 0.5% to the current 3.75% in the last seven months. Direct impacts on consumers can be seen in equivalent rate increases in mortgages, car loans and credit card interest rates. Businesses experience equivalent rate increases in lines of credit for working capital and inventory loan financing. The assumed logic in the intervention strategy is that consumption would be reduced by both individuals and businesses, and therefore demand for goods would slow, resulting in increases in prices that would first slow and then retreat. Inflation is generally unpopular, and rapid inflation even more so. Consumers vote with their pocketbook in both purchases and the voting booth, so the war against inflation is fought with a good deal of politicking as well. The incumbents feel pressure to lower inflation while the opposition attacks those in power for causing it.

The impact of intervention strategies in the early stages is more incremental than large in nature, and almost always characterized by an initial slowing of the rate of change in inflation followed by incremental reductions in inflation, as observed in declining prices. Attempts to see trends in the success of inflation-reducing intervention strategies can be seen best in several months of economic data releases. Now, seven months into the intervention strategy, it seems that we are beginning the phase of incremental declines in prices and have seemingly passed through the phase of slowing the rate of growth in inflation. Let’s look at the indicators we normally observe to see what trends are beginning to form.

The Federal Reserve’s Weekly Economic Index (WEI) was last reported at 2.68%, which is a slight improvement over the previous week. Specific areas cited in the release were improvements in retail sales, tax withholding receipts, consumer confidence surveys, electricity output, fuel sales which more than offset declines in rail traffic and steel production.

Job gains released today reveal that employers added 263,000 jobs in September, which was slightly higher than expected, but was the smallest monthly advance since April of 2021. This advance represents a deceleration from average monthly job gains in 2022 of 420,000 per month. US unemployment improved to 3.5% from the previous monthly report of 3.7%, while labor participation remained steady at 62.3%. Average hourly wages increased at a rate of 0.3% for the month, which is a reduction in the annualized year over year wage growth of 5.0%. Overall, the report showed a very strong labor market though job growth appears to be declining and wage growth decelerating. On the inflationary side of the ledger, the competition for workers is very hot and the consumer appears to be fully employed.

The September Purchasing Manager’s Index (PMI) surveys reveal areas of incremental decline as well as incremental increases. The manufacturing PMI survey fell below the expansion threshold of 50% by registering 49.8%. The service sector, whose twelve month average is 59.2%, declined to 56.7% which correlates to a 2.4% annualized increase in GDP, somewhat in line with the New York Federal Reserve Weekly Index of 2.68%, which suggests a declining rate of growth from the June and July results. Areas under pressure in the PMI report were business activity, new orders, inventories and prices while increases were tallied in backlog orders, export orders, imports and employment.

Recent action by the Saudis to reduce oil production was not welcomed by others, including the Biden administration, who signaled that the US strategic oil reserves may well be tapped again. Prices at the pump as well as natural gas and heating oil had been trending in the right direction. This week’s national average for regular gas per gallon inched slightly higher to $3.83 per gallon from last week’s $3.72 and last month’s high of $3.77. The next release on inflation will come on October 13 and most analysts are expecting an annualized rate of slightly higher than 8.0%, which would be a decline of 0.3% continuing the third incremental monthly decrease in a row.