“Goods inflation” was the big story of 2020. The pandemic happened, we tried to reopen the economy but factories weren’t open. Lumber prices soared, container ships backed up at West Coast ports, 15-week backlog to get new home furniture. Not enough goods – prices soared.
“Service inflation” was the big story of 2021. Vaccinations happened, people wanted to go out and try to live like they used to live. Let’s be honest: there’s only so long you can spend time at home with your ‘loved ones’. Hotels tough to find, airlines booked solid, tough to get a reservation at your old favorite restaurant. Not enough service labor – prices soared.
And while the Fed got WAY BEHIND this whole phenomenon, eventually the combination of hiking interest rates at the fastest pace ever AND shrinking their $9 trillion balance sheet takes effect. Eventually the drug works. During 2022, the cost of money went up, financial conditions got tighter, and prices have been and are correcting right on cue. PMI manufacturing prices are materially lower and headed lower. Service inflation, as measured by service prices and service labor, going in the same direction – LOWER. The charts and data agree.
This Powell-led Fed probably hikes 25bps in July to prove their worth but any rate hike after that likely brings into reality the possibility of a hard(er) economic landing in 2024. June wasn’t a Fed “pause”; it was the Fed “Skip”. But if they are not careful, the Fed will find themselves fighting inflation that will be back under < 3% CPI inflation within months. The market won’t like the Fed fighting something that doesn’t exist. To me that feels like late 2018 when Powell hiked but inflation was tame/lame.
Big picture is that inflation is in the rearview mirror. I think the stock market agrees, I think the bond market sort of agrees, commodities agree, I think the USD trend agrees, and I hope Powell and his Fed sees this too.
Source: EISI as of June 27, 2023
Richard Barrett
Chief Investment Officer
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