Comments on U.S. Current Account, Consumer Prices, and Monetary Policy
June 18, 2015
Balance of payments data out today confirm a weakening that foreshadows the dollar’s correction downward since mid-March. The $113.3 billion current account deficit in the first quarter was $10.2 billion wider than the prior quarter’s imbalance. The deficit increased as well in each of the final two quarters of 2014, bringing the three-quarter cumulative deterioration to $21.3 billion or 23%. As a percent of GDP, the current account deficit equaled 2.6% in the first quarter of 2015, up from 2.2% in both 2013 and 2014 but no where near as imbalanced as in 2006, when the deficit equaled 5.8% of GDP. In addition to a larger current account shortfall last quarter, a deterioration of net long-term portfolio investment flows outweighed an improved net direct investment inflow by $10.6 billion.
Although the 0.4% rise in consumer prices between April and May was the largest month-on-month advance since February 2013, the latest CPI report presents a benign picture. Gasoline leaped 10.4%. But food was unchanged, the core CPI excluding energy and food went up just 0.1%, the smallest increase in four months. Between May 2014 and May 2015, the total CPI was unchanged, and the core CPI climbed 1.7%. Over the past four and ten years, total consumer prices have risen at annualized rates of 1.3% and 2.0%, each of which is well above the latest twelve-month comparison. Likewise, the 1.9% annualized core inflation rate for these two multi-year time periods exceeds the latest core CPI change.
The Federal Reserve’s mantra that future interest rate policy will be data driven indicates that traders and analysts by and large are asking the wrong question about monetary policy. An obsession exists with when Fed officials will announce the first increase and about how quickly ensuing rate hikes will be staggered. The implication is that individuals at the central bank are deciding this issue, and a faction of congress has been scrambling to get a piece of that action by in effect establishing its own in-house shadow open market committee, only with much more influence that the private-sector one. The real U.S. monetary policy story for the years ahead is not what Fed officials attempt to do but rather what the U.S. economy will be able to handle. The five-year long U.S. economic expansion has developed much more slowly than typical business upswings, even though Fed-controlled interest rates have been much lower than in the past, that is very close to zero, and even though these lows have been maintained for a considerably longer period than in earlier business recoveries. Plus, low interest rates were augmented by very aggressive quantitative stimulus. Plus, productivity has been very disappointing, notwithstanding the proliferation of Aps. Fed officials will undertake monetary policy tightening when and as they become sufficiently confident that the U.S. economy can tolerate the shift. But make no mistake, officials can only guess at whether that will be the case, for the normalization process is truly unprecedented.
The experiences in the past decade of the European Central Bank and Bank of Japan suggest that however long Fed officials wait, they are more likely to err by raising interest rates before the U.S. economy can handle the change than to delay for too long. But the point markets need to understand is that Fed officials will not be driving this process. The U.S. economy will have the last word.
Copyright 2015, Larry Greenberg. All rights reserved. No secondary distribution without express permission.