Three Things – Weekend Reading

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What a week. Here are three things I think I am thinking about.

1) The (gulp) election.

Thursday’s Presidential debate was stunning. I jokingly tweeted in advance that we were all going to tune in to see whether these two men are senile or not. And what we found out is that Trump seems roughly the same and Biden looked very, very old. Of course, I am just a perfectly objective moderate so I don’t fall on one side or the other, but to state the obvious – this bodes poorly for the Democrats. Voters have long questioned Biden’s age and mental capacity and the debate gave us a clear answer there.

The problem is if Biden steps aside you have Kamala Harris and Gavin Newsom behind him. I am very skeptical that any California Liberal can win an election against Trump. A Reagan Californian could pull it off, but I am skeptical that a California Liberal can do it. And so the question is, assuming Biden were to step down, could another politician like JB Pritzker make a run and is 3 months enough time for a new face to win over the country? Will Biden step aside? Will he nominate anyone other than Newsom or Harris? I don’t know.

The bottom line is that the likelihood of a second Trump term just went up by a lot. And so what does it mean for the economy? It means more of what we saw in his first term – tax cuts and tariffs but with geopolitical turmoil in Ukraine, China and Israel. How would Trump handle all of the geopolitical risks that he’ll inherit? And perhaps the most important facet here is that he’d be adopting an economy that has had record low unemployment that is now ticking up. Will the next President be inheriting a geopolitical mess at a time when the economy appears to be softening? I suspect Trump’s second term will look very different from his first.

2) It’s time to cut rates!

Speaking of the potential for a softening economy – I was on Schwab TV on Friday with Oliver Renick discussing why the Fed should cut in July. To be clear, I don’t think they’ll do this, but if I were Supreme Leader of the Fed I would. Here’s the interview, but the synopsis is:

  1. Core PCE of 2.57% is close to target and trending lower.
  2. The risk of a second flare up in inflation looks unlikely at this point.
  3. The labor market is slowing, could soften further by year-end.
  4. If they don’t cut in July I don’t think they can cut in Sept because of the election being so close. But if they cut in July they have the flexibility to go again in Sept if they need to.
  5. The Taylor Rule has them cutting already. It also had them raising in 2021 long before they did.
  6. Waiting until November/December could end up looking like a mistake and could force them to play catch-up.
  7. Going in July is just a baby step. It’s very unlikely to cause a big flare up in borrowing or demand, but could get them started towards cutting without having to backpedal quickly like they were forced to do in 2022.

3) Has inflation been defeated?

I’ve talked in the past about how I hate the “soft landing” analogy, but the media loves it so…Friday’s Core PCE reading was very reassuring. It showed a continued downward trend in inflation and showed virtually no signs of another big flare up in inflation. We’re at 2.57%, down from the 2022 high of 5.6%.

It’s interesting in the context of the 2% rule because that’s the figure everyone views as the landing zone. But this figure, which is totally arbitrary to begin with, is not where you start bringing the plane down. You start easing the plane down long before you can see the landing zone and at 2.57% I’d argue the runway is well in sight. Now, you wouldn’t declare victory when you start your descent, but we’re at the point where it’s certainly looking like we’re close to having defeated inflation.

It’s remarkable when you think back on it. In 2021 there were numerous calls for hyperinflation. Then in 2022 it was all worries about the hard landing. And then in 2023 it was all about the second flare up in inflation, the repeat of the 1970s and “fiscal dominance”. But the Fed has so far threaded the needle on all of these things. Well, hyperinflation was always a ridiculous narrative, but the point is that the Fed has done a very nice job here so far. Inflation is well under control and it’s come down without a big flare up in unemployment. I was very critical of their push to raise rates so late, but I think they’ve done a nice job more recently.

What’s the outlook going forward? I am still firmly in the disinflation camp. I view overshooting to the downside as the bigger relative risk when compared to another flare up in inflation. My inflation model still points to lowering inflation and that seems consistent with the softening demand we’re seeing all over the place. So it’s still too early to declare victory, but victory is in sight.


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