Agoracom Blog

US Consumer Price Index Out – All Life Necessities Higher. Fed Is In Checkmate

Posted by AGORACOM at 10:39 AM on Friday, June 13th, 2008

Good morning to you all. US CPI numbers are out and the news isn’t good except for those buying furniture, women’s clothing and PC’s. Otherwise, the scene is pretty bad. If you like to eat, drive, drink, get an education and get medical attention when sick, life just got a whole lot more expensive.

Rather than giving you raw data, a graph is worth a thousand words:

(Thanks to Barry and Jake for the great graph)

This isn’t a pretty situation. The economy isn’t growing, yet inflation is on the rise. The government can report inflation “ex-food, ex-energy” to soften the blow – but they can’t hide the fact your pockets are still getting depleted every time you step up to the cashier and the pump.

The Fed continues to delay check mate but the fact of the matter is increasing interest rates to control inflation is only going to continue hitting real estate where it hurts. This isn’t good when foreclosures are up 48% in May and 1/483 households received a foreclosure note in May.

In addition, the resulting stronger dollar is only going to weaken exports and further slow the economy, which by most accounts (except for cheerleaders) is in a recession.

So will the Fed increase rates? Fed Funds Futures are now pricing in:

  • A 100% chance that the Fed raises rates by a total of 50 bps by the October meeting.
  • A 24% chance of a 75bps increase by October.
  • By the January 2009 meeting, we have a 98% chance that Fed Funds rate will be raised by a total of 100 bps

In my opinion, I don’t think they have the guts to do it for the very reasons I outlined back on January 3rd. Here is the key excerpt:

Unfortunately, you can’t fight inflation and a credit liquidity crisis at the same time. Fighting one only makes the other problem worse. In this case, cutting interest rates will also lead to higher inflation. Afterall, the purpose of interest rate cuts is to get people to spend. Anybody want to guess what happens to gold when inflation starts climbing?

If you are a chess player, you understand the analogy that the Fed is about to sacrifice its Queen to save the King. Unfortunately, cutting interest rates to help save the real estate market is only going to delay the inevitable pain the US economy must suffer for years of excess and greed. They have picked their poison and thy name is inflation. Checkmate.

For now, the dollar is gaining strength and gold is off on sentiment that interest rates will have to increase. I think it’s far from a foregone conclusion. The Fed can argue”Core CPI” is in line with expectations – but the public outcry is going to buy it and should result in significant political pressure. Let’s see.


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