This is the Worst Policy Mistake Since 1929.

Summary

The script discusses the Federal Reserve's prolonged maintenance of interest rates above the neutral rate, a move historically associated with economic downturns. It highlights past mistakes leading to the Great Depression and the 2007 recession and suggests current restrictive policies may be repeating these errors. Despite signs of stabilizing inflation and deteriorating employment, the Fed plans to delay non-restrictive rates until 2025. The script also contrasts the irrational exuberance of the stock market with the Fed's cautious approach, noting market signals that contradict an impending recession.

Takeaways

• 📉 The Federal Reserve has maintained interest rates at the same level for the past 12 months, a move historically only done once before the global financial crisis.
• 😔 Former Federal Reserve Chair Ben Bernanke regrets not cutting rates sooner before the crisis, as keeping rates above the neutral rate led to restrictive monetary policy.
• 🔍 Historically, the Fed has made mistakes by keeping rates too high for extended periods, contributing to economic downturns like the Great Depression.
• 🚫 Despite the current short-term interest rate being above the neutral rate, the Fed's restrictive monetary policy has been in place for nearly two years.
• 📈 Inflation has been significantly reduced and is now at levels considered too low by the Fed, suggesting a need for a change in policy.
• 📊 Core inflation data shows a substantial decrease in 2024, aligning with the low inflation rates of 2009-2020.
• 📉 The economy is showing signs of deterioration, with employment ratios rising and hiring levels dropping to the lowest since 2020.
• 💼 The Fed's dual mandate of full employment and stable prices suggests that current policy is not aligned with the current economic situation.
• 🗓️ Despite plans to cut rates, the Fed is not expected to reach non-restrictive levels until April 2025, which may be too slow.
• 📈 The stock market is showing strength and hitting all-time highs, which may not reflect the true economic situation.
• 📊 Stock market behavior has historically been irrational, with pre-crisis highs followed by severe downturns, suggesting current optimism may be misplaced.

Q & A

Why has the Federal Reserve kept interest rates at the same level for the last 12 months?

The Federal Reserve has maintained the same interest rate level in an attempt to control inflation that was running high in 2022 and 2023, aiming to bring it down to more reasonable levels.

What is the historical precedent for the Federal Reserve's current interest rate policy?

The Federal Reserve has only once before kept interest rates at the same level for an extended period, which was before the global financial crisis. Additionally, they kept rates above the neutral rate during the late 1920s, leading to the Great Depression.

What is the 'neutral rate' in the context of the economy?

The neutral rate is considered the long-term interest rate that neither stimulates nor restricts economic growth. If short-term rates are above the neutral rate, monetary policy is tight and can have a restrictive effect on the economy.

Why did Ben Bernanke, the former Federal Reserve Chair, regret not cutting interest rates sooner before the global financial crisis?

Bernanke regrets not cutting rates sooner because keeping rates above the neutral rate for an extended period had a restrictive effect on the economy, which may have contributed to the severity of the financial crisis.

What is the Federal Reserve's current stance on interest rates according to the recent Jackson Hole meeting?

According to the recent Jackson Hole meeting, the Federal Reserve plans to begin interest rate cuts starting in September but does not intend to cut rates down to non-restrictive territory until April 2025.

What economic indicators suggest that the Federal Reserve's current monetary policy may be too restrictive?

Indicators such as the ratio of employed to unemployed people rising aggressively throughout 2024, showing businesses beginning to lay people off, and hiring levels dropping to the lowest since 2020 suggest that the economy is deteriorating rapidly.

How does the Federal Reserve's dual mandate affect its decision-making regarding interest rates?

The Federal Reserve's dual mandate requires it to focus on both the economy and labor market, striving for full employment, and also to control inflation. Both of these mandates suggest that the Fed should be cutting interest rates given the current economic conditions.

What is core inflation and how has it been performing in 2024 according to the script?

Core inflation is a measure of inflation that excludes volatile items such as food and energy prices. In 2024, core inflation has moved down substantially and is now at the lowest levels since the pandemic, hovering around 0.1%.

Why might the stock market's current strength be misleading in terms of predicting the economy's health?

The stock market can be irrational about the future at times and has historically soared into economic downturns, such as in the 1920s and at the beginning of 2009, indicating that it may not accurately predict economic conditions.

What is a 'molen bre thrust' and what does it suggest for the stock market?

A molen bre thrust is a bullish development for the market, occurring when the molen oscillator goes from being very oversold to being very overextended in a short period of time. It suggests that the market has gone from being extremely panicked to being very strong and typically leads to high returns looking forward.

How should investors approach the current stock market conditions according to the script?

Investors should be cautious, taking advantage of the market's strength while also hedging and protecting against downside risks. The script suggests that the stock market could remain irrational for a few more months, but investors should be prepared for a potential downturn.