Officials' Reassurance Means Little. We have heard it all from US Federal Reserve Chairman Jerome Powell in recent months – inflation will come down to the central bank's 2% target, we are likely at the peak of interest rates for this cycle, we should anticipate three rate cuts before the end of the year. Through it all, you have read the refrain from SriKonomics – that he is wrong, wrong, wrong. Inflation does not come down in a straight line, definitely not after a doubling of the Fed balance sheet in the two years after covid began.

The Fed also lowered its policy rate to near-zero even as massive fiscal stimulus was being pumped into the economy in 2020 and 2021. When officials found that inflation was much higher than anticipated in the first two months of 2024, they resorted to the excuse that these were quirks at the start of the year that would get corrected with time.

Consumer price inflation data for March that were released Wednesday put paid to the excuses that we have heard from Chairman Powell and his colleagues. Prices rose by 0.4% in March, the same pace as in February. Over the past twelve months, the headline index rose by 3.5%, "a larger increase than the 3.2-percent increase for the twelve months ending February," the US Bureau of Labor Statistics pointed out. And you couldn't just blame it on the 1.5% month-on-month increase in the price of gasoline following its 3.6% rise in February. Even excluding food and fuel, the core CPI increase accelerated to a 3.8% annual pace last month from 3.7% in the previous month.

You would think that Fed officials who speak in the aftermath of the CPI release can no longer go public with their anticipation of rate cuts this year. And you would be wrong! John Williams, President of the Federal Reserve Bank of New York, often considered to be the second most senior official in the central bank hierarchy and close to Powell in his views, was one of the officials who continued to be reassuring. "I expect inflation to continue its gradual return to 2%, although there will likely be bumps along the way, as we've seen in some recent inflation readings," he said Thursday. Boston Fed President Susan Collins chimed in with her own view that rate cuts were coming, but later in the year than she had previously believed.

These officials are not going to be so optimistic when inflation proves to be enduring. Recall that Powell, who had attributed the pickup in inflation to supply side bottlenecks, walked away from the surge in prices in 2022 by referring to it as "unexpected" – nothing at all to do with the monetary steps he had initiated, of course! Expect him and his colleagues to blame exogenous factors – Middle East tensions boosting oil prices could serve as a favorite culprit – rather than take responsibility for the upturn in inflation.

In the current situation, Fed officials also face a calendar issue that they did not encounter earlier this decade. With presidential elections set for November 5, they do not want to start cutting rates too close to that date and be considered to be politically motivated. Republican presidential candidate Donald Trump has already suggested that Powell wants to lower interest rates in order to boost incumbent Joe Biden's prospects, and reiterated in February that he would not renominate Powell if he (Trump) is elected.

That would, in part, explain why Fed officials are itching to cut rates despite inflation remaining above target, and overall economic growth continuing to be strong. Despite Powell's repeated statements that the Federal Open Market Committee makes its decisions independent of the political calendar, that calendar may yet be the major determinant of the timing of rate cuts.

Even if June proves to be too early to ease policy, the Fed may want to lower rates soon thereafter irrespective of what happens to inflation. Given such inconsistencies in policy, we may be in for a short-term rally in risk assets followed by an economy train wreck.

Despite the surge in long-dated Treasury yields last week following the elevated CPI inflation rate, Treasurys may be the safe haven during the storm.

Dr. Komal Sri-Kumar

President

Sri-Kumar Global Strategies, Inc.

Santa Monica, California