By Thomas A. Martin, CFA, Senior Portfolio Manager – GLOBALT Investments
Everyone would be a better central banker than the central bankers. Just ask them. Actually, you don’t have to, they are more than happy to tell you. “The markets” have their say 24/7 through the futures markets. Strategists all know better, as do the economists, and they publish their views to their followers and repeat them in the press. And the press knows of course, and it is their job to let us know.
The answer is that rates should be raised. According to the peanut gallery, virtually across the board. If not forthwith, then soon. Certainly sooner than the real central bankers have indicated that they think is prudent. The “markets” have rates going up sooner, faster, and more in the U.S. than what the Fed median “dots” show. This is certainly worth noting, as there is real money on the line here. But the Fed will be the first to tell you that the two series are not comparable, that the dots are not predictions (or policies, or commitments or bets), whereas the futures are predictions and bets. Everybody goes yeah, yeah, yeah, and then proceeds to compare them. There is no “dot plot” for the BoE or the ECB or the BoJ, but the idea is the same. The pundits believe in a more aggressive rate path than the institution is communicating.
The reasons are so obvious. Duh. Like, inflation? Can’t you see the inflation? Well, yes, the central bankers see it. They are evaluating it. They are contemplating what to do about it. In fairness, it is a very complicated subject, but the communication has to come in short soundbites of carefully selected, parsimonious words. Transitory? Or up to new higher levels for a long period of time, which is to say embedded and compounding over a number of years? It’s an important distinction and the point of demarcation is probably a couple of years. Transitory in the inflation/economic destructive sense is not the same transitory in the sense of a summer romance.
The disagreement, really, is about what to do about it. Because, you know, you have to do something about it. Particularly, these days, if you are the President of the United States (although that is not really your job), and most assuredly if you are the Fed (because it is one of the only two jobs that has been assigned to you by Congress). The general public might be forgiven if they have been given the impression that doing something about inflation is easy. It’s not. There are a lot of factors that are causing inflation this time around and they are not things with which we have a lot of experience. These varied factors do not respond similarly to the “tools” that the Fed (or the federal government for that matter) has at its disposal. Doing the wrong thing could easily have just as bad consequences as not doing the right thing. Perhaps the most important thing to keep in mind is that the meaningful actions (that will make a sustainable difference) that can be taken have their effect with a lag of many months ranging from six to eighteen and quite possibly longer. It’s why a reasonable transitory period of two years is so important and presents such a challenge. Wanna try?
The Fed governors are more divided on this issue than they have generally been on past issues. It plays out in public. It’s like watching that hapless couple in the mall arguing loudly over what’s best for the kids, while the bystanding crowd throws in their two cents worth. “You’re behind the curve, it’s going to be a disaster,” they say one after another, and a few groups in the background are arguing over which direction their inevitable “policy mistake” is going to be, while they nod and shake their heads knowingly and sadly and wag their fingers like sages from ancient Greece.
Who is right, the bankers or the not-bankers? The track record in this regard is mixed. Sometimes the Fed is right, sometimes the markets are right. Funny thing is, you never know in advance for sure. This should not be a surprise. Those of us who are managing assets for others have to make our own decisions.
We here at GLOBALT Spotlight Commentaries, of course, have our own view. We do not believe we are in a foregone conclusion setup for runaway inflation. There are several deflationary underpinnings that are more secular in nature, such as high debt levels, aging populations, low birthrates, technological and efficiency advancements, a highly interconnected world with diverse participants and the ability to make changes through communication and management more quickly than ever before, and, not least, the invisible hand of competition and individual (consumer) self-interest. We are, however, keenly aware that there is one very important factor that can and has been the only set-up needed to fire up runaway inflation: excessively printed money from highly stimulative monetary and fiscal policy. That we have that in spades. As precarious as this environment is, we do not believe it is one that, all in all, will benefit from higher interest rates. For our part, we believe the Fed understands this all too well. Confidence is everything, and the Fed is in the unenviable position of maintaining its credibility with a weak hand.
2022 is shaping up to potentially be a watershed year. How this plays out could push things either way. As investors, we shape our views and our scenario analysis on the weight of the evidence and position our clients’ portfolios accordingly. We are dynamic managers by design, and we adapt as the evidence changes.
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