The Outsider Perspective Issue 322 | The Beltway Outsiders

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Good Friday Morning! Especially to the San Francisco 49ers. What Kyle Shanahan has done with that crew using three different quarterbacks, starting 3-4, and winning the division outright is impressive. I’m becoming a believer in Brock Purdy. He’s a great story, if nothing else – from Mr. Irrelevant in the NFL Draft to winning a division title and going to the playoffs. That’s a future ESPN 30 for 30 feature.

This week, I’m going to jump back into inflation and the Federal Reserve. Between the elections and other news, I have yet to be able to focus on the economic news continuing along underneath the political drumbeat. But it’s worth visiting where things are going in 2023.

Quick hits:

While I was writing this issue and my column, Elon Musk sent Twitter into an absolute tailspin. Musk set a new policy where anyone who doxxed the real-time locations of another person was immediately banned. Multiple blue-check journalists from CNN, the NYTimes, the Washington Post, and more were swept up in the policy and had their accounts banned. The weeping and gnashing of teeth among the journalists was immediate and loud. They even started a Twitter space where they could all complain about it — a session that Musk joined and fired back at them! It was surreal. Musk set a 24-hour poll on the policy, and you can vote here. You can’t make up how crazy Musk is driving specific segments of the left.
Congress is clearing the decks on keeping the government funded for the following year. First, they passed an $847 billion NDAA, which supports all military and defense needs (column below on the national defense stockpile). The NDAA included the end of the military vaccine mandates. Second, Congress punted on a continuing resolution to fund the government. They bought themselves another week to come to a deal. The current CR getting debated is estimated to be around $1.7 trillion. With Congress set to leave DC for the holidays, they’re trying to get things finished before the new Congress is seated. I expect Biden to sign whatever Congress comes up with at the end of the year.

Where you can find me this week

Please subscribe, rate, and review my podcast on iTunes, Spotify, or Google Play — the reviews help listeners, and readers like you find me in the algorithms. Make sure to sign up for the Conservative Institute’s daily newsletter and become a subscriber at The Dispatch, where I’m a contributor.

[12/12/2022] Common Good Constitutionalism failed the pandemic. Originalism did not. – Conservative Institute

[12/16/2022] Three Cheers for Congress on filling National Defense Stockpile – Conservative Institute

The Federal Reserve’s Tipping Point to Recession.

For the longest time, economic data and the direction of the Federal Reserve’s policy have made sense. Inflation has run hotter than expected, the Federal Reserve responds by raising rates, and the cycle continues until the data changes. I’ve often bucked the market directions, which have hated the interest rate hikes more than inflation. The data has officially shifted, and we’ve entered murkier waters.

The Wall Street Journal explained where we are right now: the data on inflation is positive, but the Federal Reserve is pushing forward with more rate hikes. Here’s a quick explanation:

In September, when the Fed last released forecasts, policy makers saw the federal-funds rate, now 4.4%, peaking at 4.6% next year. At its subsequent meeting in November, Mr. Powell warned that was out of date and that in fact rates would have to rise even more. A few days later, though, the Labor Department reported a surprisingly low increase in consumer prices for October. Stocks soared, and bond yields dropped. Earlier this week, lightning struck a second time: Consumer prices for November came in softer than expected.

Those numbers seem to have made no difference at all to the Fed. In projections released this week, the central bank expects to raise rates ultimately to 5.1% by the end of 2023, a half-point higher than projected in September, and lower them only to 4.1% by late 2024.

This monetary stringency will exact a price: The Fed sees economic growth of just 0.5% next year, down sharply from September’s 1.2% projection and consistent with a recession. It sees unemployment climbing to 4.6% from 3.7% now, higher than projected in September. Such a combination would normally entail lower inflation. Yet the Fed actually raised its inflation forecast for the end of next year, to 3.1%. Excluding food and energy, it increased its “core” inflation forecast to 3.5% from 3.1%.

Based on the Fed’s projections, an increase in the unemployment rate to 4.6% from where we are now would lead to around 1.6 million losing their jobs. That’s a pretty stark number. If the Federal Reserve gets its way, we’re going to have an ironic moment where public officials call job losses “healthy.”

But inflation is improving! Why is the Fed pushing forward, exacting more pain? Markets are trying to bounce back with the positive data, but they get hammered down by the Fed’s rhetoric. The reason for this dichotomy from the Fed is due to them not being focused entirely on inflation – they’re focused on jobs. WSJ explains:

Mr. Powell has noted several times that he considers headline inflation a poor guide to underlying inflation because it is heavily driven by energy, durable goods and shelter. Their prices are being driven by forces such as supply-chain disruptions having little to do with aggregate supply and demand.

Rather, he is focusing on service prices, excluding shelter, which tend to be stickier and slower moving. And because these services tend to be labor-intensive, that puts the job market center stage in his thinking. And apparently he doesn’t like what he sees.

Indeed, whatever good news the Fed might have taken from the October and November inflation reports seems to have been more than offset by the November employment report, which showed job growth remaining robust, unemployment near a half-century low, wage growth accelerating and the supply of labor shrinking. “The labor market continues to be out of balance, with demand substantially exceeding the supply of available workers,” Mr. Powell said Wednesday.

We’re in a weird spot. Economic data is weakening, demand is falling, and inflation is cooling. Now, when I say inflation is falling, I mean that it’s going up slower than in the summer months. Inflation is still going up. We still saw inflation north of 7%, with categories like food and housing driving the way. If you’re an average American, everything sucks. There’s no way to avoid it. And while inflation is going up slowly, we’re shifting to what drives the conversation and policy.

To state things simply: we’re moving from inflation to recession. As the WSJ noted above, the Federal Reserve is essentially predicting a recession for 2023. Three voting members of the Federal Reserve expect negative growth for 2023, with everyone else predicting 1% or less for the year.

We’ve entered the moment where the Federal Reserve has to decide whether they “tighten too much” or let the foot off the gas and see if inflation cools off even more. The Financial Times had the most telling headline for this week’s rate hike and press conference: ‘Emphasise the pain’: Jay Powell keeps hawkish tone even as inflation eases.

To some extent, I’ve expected this turn. In a series of columns, I’ve written:

[09/30/2022] The economy where good news is bad news: I made the case that positive job reports were terrible for everyone else because the Fed would see strong job growth as an impetus to hike rates more.
[10/21/2022] The most obvious, policy-induced recession in history: Where I wrote that the Fed was telegraphing a move into a recession.
[10/31/2022] The Fed Whisperer says more rate hikes on the way: Where I looked through WSJ reporter Nick Timiraos’s writing to glean some direction from the Fed. Powell and the Fed have exclusively leaked to Timiraos for the last year, so if he’s saying more hikes are on the way, that’s important.

I’m not presenting these columns to spike the football or say, I told you so. I am saying that the Federal Reserve’s direction has been clear. But what is equally valid is that the last two months of economic data are pretty decent for the “soft landing” crowd. In the past, the market has just been flat wrong about inflation and tried to tantrum out of rate hikes.

Now, the data is shifting. The question is, how long does the Fed stay in hiking mode? That’s hard to figure out, even for the Federal Reserve. The WSJ Editorial Board put the situation this way:

The Fed is now admitting that Americans will pay a price in slower growth and higher joblessness because inflation took off, though it may still be underestimating that price. Its median forecast for economic growth for both this year and in 2023 is a mere 0.5%. But CEOs are nearly unanimous in anticipating a recession this year.

“I wish there were a completely painless way to restore price stability,” Mr. Powell said Wednesday. “There isn’t.”

He’s right and the honesty is welcome. But it’s all the more reason to regret the mistakes of easy money and fiscal profligacy that brought us to this unhappy pass.

If the Fed continues to hike, that scenario plays out. We get a recession of some kind. Outside of the housing and tech sectors (which arguably have been in a recession for months now), we see weakness in retail. The big red flag this week was falling retail sales during the Christmas season.

The Commerce Department on Thursday reported November retail sales figures, and to say they were disappointing would be an understatement. Overall sales fell a seasonally adjusted 0.6% from October—worse than the 0.3% drop that economists polled by The Wall Street Journal had expected—with most categories registering declines. The holiday shopping season kicked off on a downbeat note.

Some of that drop was undoubtedly a lack of stimulus checks in California, which made the October report look great. You can talk anecdotally with people who work in warehouses or retail stores and hear stories of slow foot traffic or online orders. This period of the year is usually filled with big-time spending from Americans, and people are cutting back.

That retail spending number is excellent if you’re looking at lowering inflation. Lower demand should help out with pricing. But remember, the Federal Reserve is concerned about the labor market and wages/prices spiraling out of control. The job market remains tight, there are a ton of openings, and the Fed fears that combination. They’re scared it leads to higher wages, making these inflated prices stickier – the Fed wants layoffs.

Is the Fed looking at the right metrics? That’s a valid question, and certainly one you can watch people debate (I hear it every day on CNBC). I’m not trying to criticize or defend them on this point. They’re focusing on reining in the job market and preventing a specific inflationary threat.

Could the Fed pivot from that? Sure. Nothing is stopping them from announcing a new policy. Before the rate hikes this week, Nick Timiraos reported on the internal divisions at the Fed:

One camp of policy doves thinks high inflation is likely to continue slowing and wants to minimize potential job losses from high interest rates crimping economic activity. Another camp of policy hawks more readily embraces stiffer measures to fight inflation because they think it could settle at a level that is unacceptably above the Fed’s 2% inflation target. …

Wage growth hasn’t shown meaningful signs of slowing down, particularly as companies offer higher wages to attract new workers than they do for current workers. Some Fed officials and private-sector economists share concerns that another calendar year of high inflation could lead employees to seek and receive higher pay early next year, which could help fuel more inflation.

If I sound more unsure, it’s because I am. We’re approaching a tipping point where recession goes from a theoretical threat to a declared reality. I already believe we are in a recession, and it’s just a matter of where the NBER decides to call it. The labor market remaining strong has thrown a wrench in that kind of call, even as other parts of the economy deteriorate.

And even if inflation dropped to the Fed’s 2% target tomorrow, they’d face the question of “how long to do you hold rates there to ensure inflation doesn’t rebound?” Again, there’s no clear answer. The Fed and markets show a disconnect right now, and I don’t know which one is going to be correct. The Fed’s actions and rhetoric say a recession is coming – which is what corporate America is riding with for 2023.

Markets are pushing a different solution. They’re trying to push the Fed towards a softer landing. So far, the Fed has resisted that push. What happens next is a big question mark.

Links of the week

How Disinformation Journalists Practice Disinformation – Christine Rosen, Commentary Magazine

What the Hell Happened to PayPal?: In 1998, the payments app was created to empower individuals. Today, it’s a cornerstone of our emerging social-credit system. – Rupa Subramanya, The Free Press

The House passed a bill that would enable the people of Puerto Rico to decide the future of their political status on their own. It’s been a major priority of outgoing House Majority Leader Steny Hoyer. – Politico

Wanted by McCarthy critics: 1 qualified alternative speaker: The House Republican leader’s conservative opponents are making a lot of noise. Whether they can stay organized ahead of Jan. 3 is another matter. – Politico

Biden braces for potentially 14,000 migrants a day – Axios

‘The Merchant of Death Is Back in Action’: The inside story of how U.S. agents took down Viktor Bout, the world’s most notorious arms trader, and why they’re worried about what comes next. – Politico

The Other American Jailed in Russia on Marijuana Charges: The case of 61-year-old Marc Fogel has eerie parallels to that of Brittney Griner. But there’s little sign Fogel will be released any time soon. – Politico

Biden’s non-binary nuclear waste guru Sam Brinton LEAVES role at DoE over claims they stole two suitcases from airports: Sam Brinton, 35, is no longer employed by the Department of Energy after being accused of stealing luggage in two separate incidents – The Daily Mail

Putin preparing major offensive in new year, Ukraine defence minister warns – The Guardian

Europe’s Energy Crisis Expected to Boost Demand for Oil as Heat Source: Oil supply declines for the first time in five months, IEA says – WSJ

Homelessness Worsens in Older Populations as Housing Costs Take Toll: Shortage of affordable housing and ending of pandemic aid feed national problem – WSJ