At the end of 2023, inflation appeared to be falling to the Federal Reserve’s 2% target. Inflation was 3.3% in December 2023 and was expected to be below 3% in January. However, inflation was higher than expected at 3.1% in both January and February. There is a strong possibility that inflation will continue to run above 3% rather than falling to the Federal Reserve’s 2% target.
The federal government is set to add another $1.5 trillion to the national debt this year. To put this in perspective, note that one trillion is a thousand billion. A billion seconds is roughly 32 years – thus, a trillion seconds is 32,000 years. The national debt currently stands at $34 trillion. Counting to $34 trillion, assuming each number took one second to count, would take roughly one million years. The Great Lakes were not even formed yet one million years ago! The debt-to-GDP ratio is now at 120% – what it was during World War II. This is an unfathomable amount of debt.
Higher interest rates usually result in falling house prices, as the higher mortgage interest rate increases the monthly payment. Consider a $250,000 house purchased with a 20% downpayment. When the 30-year fixed mortgage rate is 3%, as it was in 2021, the monthly payment is about $850. When this interest rate rises to 7.5% as it did in 2023, the monthly payment doubles to $1,400. Housing thus becomes less affordable and the demand for houses falls, reducing their price; the fact that this did not happen in 2023 was surprising. A likely explanation for this is that housing supply remains constrained, which is keeping prices elevated.
On November 30, President Biden posted on X (aka Twitter): “Let me be clear to any corporation that hasn’t brought their prices back down even as inflation has come down: It’s time to stop the price gouging.” This post confuses deflation – or prices falling – with disinflation, a reduction in the rate of inflation.
The economy in 2023 was resilient. The unemployment rate is currently 3.9%, marking 21 consecutive months below 4%. An average of 239,000 new jobs per month were created in 2023 and the economy grew by a whopping 4.9% in the third quarter. Inflation is currently at 3.7%, which is down from its peak of 8.2% in April 2022.
Hopefully, the UAW strike will be settled by the time this column goes to print. It is worth taking a step back and asking why General Motors, Ford and Stellantis did not just give the UAW what it wanted to avoid the strike.
One of the myths found in economics textbooks and perpetuated by some economists is that the Federal Reserve (Fed) is politically independent, which prevents excessive inflation. One of the arguments supporting Fed independence is that members of the Board of Governors, the Fed’s decision-making body, serve 14-year terms. Thus, a President will be well into a second term before appointing a majority of them.
With inflation slowing to 3.1% as of writing this column, Jerome Powell and the Federal Reserve are likely to get credit for taming the 40-year high inflation we have experienced over the last couple years. Similarly, Paul Volker and the Federal Reserve of the early 1980s got credit for “breaking the back” of the 1970s inflation. What this ignores is that the Federal Reserve created the 1970s inflation, just like they created the more recent inflation. Crediting the Fed for “fixing” inflation means crediting them for fixing a problem they themselves created.
The Federal Reserve has increased the federal funds rate from 0% to 5% to reduce the inflation they created during the pandemic. The federal funds rate is the interest rate set through monetary policy and is at a 16-year high. Members of the Open Market Committee, the committee that sets monetary policy, anticipate at least two more 0.25 percentage point rate increases. This would push this interest rate to 5.75%, a 23-year high.
The deal recently reached by Congress and President Biden suspends the debt ceiling until January 2025 in exchange for modest limits to increases in discretionary spending over the next two years. The deal will do almost nothing to reduce the federal deficit, guaranteeing that in January 2025, we will go through this charade again.
In March 2023, Silicon Valley Bank (SVB) collapsed. When a bank fails, the Federal Deposit Insurance Corporation (FDIC) repays depositors up to a $250,000 limit, a limit that is widely known. Approximately 90% of SVB’s deposits were above this limit.
Due to losses on its bond portfolio, Silicon Valley Bank collapsed in March. What happened? Bonds are safer than stocks, but not perfectly safe. Bonds carry two risks: default risk and interest rate risk.
