No. of Recommendations: 34
The Control Panel is a METAR -- a short-term snapshot of the week's weather. The hard part is separating signal from noise. Although some METARs are traders, many are long-term investors who are more interested in "seasons" (the business cycles that we have lived through) as well as long-term trends -- generational changes that last over several business cycles.

From about 1980-1985 (before some METAR Board members were born), I worked selling water-treatment chemicals to heavy industry in the NJ area. At the same time, I studied at night for my MBA.

I remember this time well because the 1980 recession represented true trend changes. It wasn't just an ordinary recession. In retrospect, this time saw the beginning of the end of high industrial employment in America. The factories were shutting down. The union workers were being fired, never to return. Many industries were completely offshored (e.g. chemicals and pharmaceuticals, often due to environmental protection laws in the U.S.). High-cost workers were replaced by low-cost foreign labor or by ever-increasing automation, especially after 2000, when China began exporting heavily and computers became entrenched on manufacturing floors in the U.S.

My MBA teachers spoke of a "post-industrial" America. I knew, literally from the inside of the boilers I inspected that powered industrial America, that there could be no such thing as a post-industrial America as long as Americans bought consumer goods, which they always would. Post-industrial America would sink into ever-increasing deficits...which it did.

The high inflation of the 1970s was smacked down by Fed Chairman Paul Volcker who raised the Fed funds rate to unprecedented highs. Interest rates have been falling ever since. This is a generational trend which nobody anticipated. Inflation has also been tame although gradually creeping up this year.

Some may forget (or weren't born yet) how the combination of high government spending for guns and butter along with low interest rates from the Federal Reserve caused high inflation during the 1970s.

The primary mission of the Federal Reserve is to maintain stable prices as well as economic stability. It is NOT the job of the Federal Reserve to keep politicians in office or to support a booming stock market. A Fed chairman who caves in to political pressure can cause long-term harm.

After the 2008 financial crisis, the Fed suppressed interest rates at all durations by buying an immense amount of debt in QE. The Fed held onto these assets for 10 years, long after the economy stabilized, then began to gradually decrease them by allowing them to mature and not replacing them. Under political pressure, the Fed reversed this policy and began to add assets late last year.

The Fed's huge money pumping went into the bond market (suppressing interest rates as intended) and into the stock market, raising the price-to-earning ratios to levels that were only comparable to a few (pre-bust) levels.

Most of the Fed's money did not enter the real economy of supply and demand of goods and services. GDP growth and Corporate Profits After Tax have remained in a narrow range since 2012. Real incomes grew, but not very fast. Income inequality grew. While unemployment dropped to a 50-year low, that only includes those actively searching for jobs. Labor force participation of working-age men is the lowest since 1950 -- 30% of working age men are not seeking work.

Federal Reserve Chairman Jerome Powell spoke last week.

October 08, 2019
Data-Dependent Monetary Policy in an Evolving Economy

Speech by Chair Jerome H. Powell

At "Trucks and Terabytes: Integrating the 'Old' and 'New' Economies" 61st Annual Meeting of the National Association for Business Economics, Denver, Colorado

I will then turn to three challenges our dynamic economy is posing for policy at present: First, what would the consequences of a sharp rise in the price of oil be for the U.S. economy? This question, which never seems far from relevance, is again drawing our attention after recent events in the Persian Gulf. While the question is familiar, technological advances in the energy sector are rapidly changing our assessment of the answer.

Second, with terabytes of data increasingly competing with truckloads of goods in economic importance, what are the best ways to measure output and productivity? Put more provocatively, might the recent productivity slowdown be an artifact of antiquated measurement?

Third, how tight is the labor market? Given our mandate of maximum employment and price stability, this question is at the very core of our work. But answering it in real time in a dynamic economy as jobs are gained in one area but lost in others is remarkably challenging. In August, the Bureau of Labor Statistics (BLS) announced that job gains over the year through March were likely a half-million lower than previously reported. I will discuss how we are using big data to improve our grasp of the job market in the face of such revisions....

Productivity is again presenting a puzzle. Official statistics currently show productivity growth slowing significantly in recent years, with the growth in output per hour worked falling from more than 3 percent a year from 1995 to 2003 to less than half that pace since then. Analysts are actively debating three alternative explanations for this apparent slowdown: First, the slowdown may be real and may persist indefinitely as productivity growth returns to more-normal levels after a brief golden age. Second, the slowdown may instead be a pause of the sort that often accompanies fundamental technological change, so that productivity gains from recent technology advances will appear over time as society adjusts.11 Third, the slowdown may be overstated, perhaps greatly, because of measurement issues akin to those at work in the 1990s....

Fed researchers have recently proposed a novel approach to measuring the value of services consumers derive from cellphones and other devices based on the volume of data flowing over those connections....
[end quote]

I am deeply suspicious of changing statistics to "pretty them up" based on factors that don't include the free market of purchased real goods and services. This smacks of "eyeballs" measuring economic activity during the pre-2000 dot-com bubble, instead of actual sales.

Meanwhile, government deficits are predicted to soar to unprecedented levels within the next few years. Most of this will be pumped into the consumer economy as Social Security, Medicare and other transfer payments. Unlike the Fed's QE, this huge pulse of demand while productivity growth is stagnant will lead to consumer price inflation, as it did in the 1970s. The bond market is totally unprepared for this, since the 5-Year, 5-Year Forward Inflation Expectation Rate is predicting inflation to stay around 1.75%. This trend will gradually creep up like a rising sea level during global warming. It will be relentless and irreversible.

We have a tale of two economies. One is real and the other is the investors' economy of the financial markets.

The real economy is stagnant. Its growth rate will be below historical levels as well-paid jobs to the working and middle class, who spend their income on goods and services, will be displaced by AI. Growth capital will be sucked up by government entitlement spending.

Like 1999, the stock market growth has disconnected from the underlying economy. I sold all my stock holdings in 1999 because I couldn't see how the SPX could be growing at 25% when the economy was growing at 2.5%. I'm not suggesting that the past is prologue or that anyone should take this advice. Personally, I do hold some stocks today in the probability that I think I could be wrong, at least short-term. The Fed is back to pumping so the market is supported.

The same is true of bonds. Will the Fed create an infinite amount of money to suppress interest rates? When and if inflation begins a significant upward trend, what will the Fed do?

Young'uns might not remember stagflation -- the combination of economic stagnation and high inflation -- that was prevalent for many years. Could it return? The business cycle has been dampened by not abolished. Could stagflation return? Not soon...but yes.

Turning from the real economy to the usual short-term Control Panel and the investor's world.

The stock market is having a party. Indexes are at record highs and all internals are strong. The trade is risk-on. The Fear & Greed Index is in Extreme Greed. The Treasury Yield curve is positive (though flat) and no longer inverted. (But this has happened just before several recessions.)

Financial stress is extremely low and conditions are getting looser in money markets, debt and equity markets and the traditional and “shadow” banking systems.

The METAR for next week is sunny.
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